Allied Irish Bank
Annual Report 2006

Plain-text annual report

48082 Cover 12/03/2007 19:51 Page 1 Contents 3 4 6 8 10 14 22 27 38 40 47 63 64 66 68 69 71 146 147 149 150 152 154 157 158 Financial highlights Chairman’s statement AIB Board / Executive Committee Group Chief Executive’s review Corporate Social Responsibility Performance review Divisional commentary Financial review Report of the Directors Corporate Governance Accounting policies Consolidated income statement Balance sheets Statement of cash flows Statement of recognised income and expense Reconciliation of movements in shareholders’ equity Notes to the accounts Statement of Directors’ responsibilities in relation to the Accounts Independent auditor’s report Accounts in sterling, US dollars and Polish zloty Five year financial summary Principal addresses Additional information for shareholders Financial calendar Index 1 Forward-Looking Information This document contains certain forward-looking statements within the meaning of the United States Private Securities Litigation Reform Act of 1995 with respect to the financial condition, results of operations and business of the Group and certain of the plans and objectives of the Group. In particular, among other statements, certain statements in the Chairman’s statement, the Group Chief Executive’s review, the Performance review and the Financial review with regard to management objectives, trends in results of operations, margins, risk management, competition and the impact of International Accounting Standards are forward-looking in nature. By their nature, forward-looking statements involve risk and uncertainty because they relate to events and depend on circumstances that will occur in the future. There are a number of factors that could cause actual results and developments to differ materially from those expressed or implied by these forward-looking statements. These factors include, but are not limited to, changes in economic conditions globally and in the regions in which the Group conducts its business, changes in fiscal or other policies adopted by various governments and regulatory authorities, the effects of competition in the geographic and business areas in which the Group conducts its operations, the ability to increase market share and control expenses, the effects of changes in taxation or accounting standards and practices, acquisitions, future exchange and interest rates and the success of the Group in managing these events. Any forward-looking statements made by or on behalf of the Group speak only as of the date they are made. AIB cautions that the foregoing list of important factors is not exhaustive. Investors and others should carefully consider the foregoing factors and other uncertainties and events when making an investment decision based on any forward-looking statement. In light of these risks, uncertainties and assumptions, the forward-looking events discussed in this Report may not occur. 2 Financial highlights for the year ended 31 December 2006 Results Total operating income Operating profit Profit before taxation - continuing operations Profit attributable to equity holders of the parent Per € 0.32 ordinary share Earnings – basic (note 18(a)) Earnings – diluted (note 18(b)) Dividend Dividend payout Net assets Performance measures Return on average total assets Return on average ordinary shareholders’ equity Balance sheet Total assets Ordinary shareholders’ equity Loans etc Deposits etc Capital ratios(1) Tier 1 capital Total capital 31 December 2006 € m 31 December 2005 € m 4,326 1,908 2,615 2,185 246.8c 244.6c 71.8c 29% 928c 1.63% 29.0% 3,647 1,493 1,706 1,343 151.0c 149.8c 65.3c 44% 773c 1.20% 20.6% 158,526 8,108 120,015 136,839 133,214 6,672 92,361 109,520 8.2% 11.1% 7.2% 10.7% (1) The final dividend of € 407m has not been taken into account in the calculation of the Tier 1 and Total capital ratios. The Financial Regulator has issued a requirement that a Prudential Filter be applied to proposed final dividends with effect from July 2007. If applied at 31 December 2006, the Tier 1 and Total capital ratios would be 7.9% and 10.8% respectively. Allied Irish Banks, p.l.c. Group Headquarters & Registered Office Bankcentre, Ballsbridge Dublin 4, Ireland Telephone (01) 6600311 Registered number 24173 3 Chairman’s Statement AIB Group delivered an exceptional performance in 2006. Operating profit increased substantially across all our divisions and adjusted earnings per share was EUR 182.8c. This is good news for shareholders.Your total dividend was 10% higher than 2005 with your final dividend at EUR 46.5c.This final dividend is payable on 10 May 2007 to shareholders on the company’s register of members at the close of business on 16 March 2007. The 2006 performance was achieved at a time when competition in all our marketplaces was intense. I want to place on record my thanks to all the people who work for AIB around the world for their contribution to these terrific results. Board changes There were a series of changes to the AIB Board over the past year. In September, we announced the appointment of two new non-executive Directors, Sean O’Driscoll and Bernard Somers. Sean, Group Chief Executive of Glen Dimplex Group, is also a member of UCC’s Foundation Board as well as the Enterprise Advisory Group established by the Irish Government to advise on the implementation of enterprise strategy for Ireland. Bernard is a non-executive director of DCC plc, Independent News & Media plc, Irish Continental Group plc, South Wharf plc and is Chairman of eTel Group, a Central European telecommunications company. He is a former director of the Central Bank of Ireland. In January 2007, Anne Maher and Dan O’Connor joined the AIB Board as non-executive directors. Anne recently retired as Chief Executive of The Pensions Board for Ireland. She is a board member of the Irish Accounting and Auditing Supervisory Authority and was recently appointed as first Chair of the Medical Council’s Performance Committee. Dan was previously President and Chief Executive Officer, GE Consumer Finance Europe, based in Dublin and a Senior Vice-President of GE. He is a non-executive director of CRH. Donal Forde, Managing Director of AIB Bank RoI Division, was also appointed to the AIB Board in January. He joined AIB in 1978 and was appointed Head of Treasury Services in 1998, with additional responsibility for AIB’s International Payments and Accounts Services, as well as its business in International Trade Finance. Donal is responsible for AIB’s retail banking operations in the Republic of Ireland. I welcome all the new directors to the AIB Board. I know their collective experience of business in Ireland and internationally will further strengthen our board as we build on our successes and pursue sustained growth and development in the years ahead. After this year’s annual general meeting, two long serving members of the AIB Board are to step down. John B McGuckian, our Senior Independent non-executive director, has served on the AIB Board for more than 30 years. Also retiring in May this year is Padraic Fallon who joined the AIB Board in 1988. I want to pay tribute to both John and Padraic for their outstanding contribution to the AIB Board over many years. 4 The UK economy is expected to grow above trend in 2007, with GDP underpinned by strong growth in the services sector.The pace of economic activity, however, is forecast to cool over the course of the year as higher interest rates start to bite. The outlook AIB’s track record of growth over the past five years is impressive. AIB has been quick to meet the challenges of increased competition with a compelling mix of products and services.The group knows how vital it is to ensure its back-office operations are run in the most efficient way. It also understands the contribution made by its loyal and talented workforce to its continuing success. The outlook for 2007 is positive. AIB is well positioned to continue to deliver excellent value to its shareholders - now and into the future. Dermot Gleeson Chairman 5 March 2007 Corporate Governance and Risk Management AIB continues to enhance its risk management resources and processes. Kieran Bennett succeeded to the position of Group Chief Credit Officer, on the retirement of David Meagher after a distinguished career. A senior Group Head of Market Risk Management, Steve Warr was recruited externally as was Eddie Ward in the new position of Deputy Group Chief Credit Officer. A comprehensive Board-level Risk Assessment is well embedded across the businesses. The Risk Management Committee, comprising top management, reviews all risks on a regular basis to ensure management action. Basel II work is resulting in improved risk measurement tools which will better align capital estimation with the bank’s actual risk exposures. Economic outlook The economic outlook in AIB’s main markets remains generally bright. Prospects for the Irish economy in 2007 remain favourable with buoyant domestic demand the key driver of overall economic growth. Personal spending in particular should be supported by strong job growth and by maturing SSIAs. However, the pace of GDP growth is still likely to moderate from last year’s growth rate of 6.0% as activity in the housing market decelerates and higher interest rates impact. The US economy has clearly lost momentum as a result of downturns in the housing market and to a lesser extent in manufacturing.The consensus view is that this will prove to be a soft landing. Indeed, growth could start to pick up pace again before the end of 2007. Meanwhile, the Polish economy is expected to grow by about 6% this year, supported by a generally positive outlook for the global economy. 5 The Board and Group Executive Committee Board of Directors Dermot Gleeson BA, LLM - Chairman Barrister, and member of the Adjunct Law Faculty of University College Dublin and a member of Cork University President’s Consultative Board. Member of the Royal Irish Academy and Chairman of the Irish Council for Bioethics. Director of the Gate Theatre. Former Attorney General of Ireland and former member of the Council of State. Former Chairman of the Review Body on Higher Remuneration in the Public Sector. Joined the Board in 2000, and appointed Chairman in 2003. (Age 58) Eugene Sheehy* MSc - Group Chief Executive Joined AIB in 1971 and spent 20 years in retail banking, including branch manager appointments in a number of Dublin branches. Appointed General Manager, Retail Operations in 1999, and Managing Director, AIB Bank, Republic of Ireland in 2001. Appointed Chief Executive Officer of AIB’s USA Division and Executive Chairman-Designate of Allfirst Financial Inc. (“Allfirst”) in March 2002. Appointed Chairman and CEO, Mid Atlantic Division, M&T Bank (“M&T”), and to the Executive Management Committee and Board of M&T Bank Corporation in April 2003, following the merger of Allfirst and M&T. Appointed AIB Group Chief Executive-Designate in March 2005, co-opted to the Board on 12 May 2005, and assumed responsibility as Group Chief Executive with effect from 1 July 2005. (Age 52) Adrian Burke B Comm, FCA - Audit Committee Chairman Chairman of Coyle Hamilton Willis Limited and Director of Dairygold Co-Operative Society Limited.Vice Chairperson of the Institute of European Affairs. Former president of the Institute of Chartered Accountants in Ireland, former Managing Partner of Arthur Andersen in Ireland, and former Chairman of the Joint Ethics Board of the Institutes of Chartered Accountants in Ireland, Scotland, and England and Wales. Joined the Board in 1997. (Age 65) Kieran Crowley BA, FCA Consultant. Founder of Crowley Services Dublin Ltd., which operates Dyno-Rod franchise in Ireland. Director of Bank Zachodni WBK, AIB’s Polish subsidiary. Former member of IBEC National Executive Council and former Chairman of the Small Firms Association. Joined the Board in 2004. (Age 55) Colm Doherty* B Comm Managing Director, AIB Capital Markets plc. Director of M&T Bank Corporation and Director of Commerzbank Europe. Joined AIB International Financial Services in 1988, and became its Managing Director in 1991. Appointed Head of Investment Banking in 1994, and assumed his present position in 1999. Member of the International Financial Services Centre Clearing House Group. Joined the Board in 2003. (Age 48) Padraic M Fallon BBS, MA, FRSA Chairman of Euromoney Institutional Investor PLC and Director of Daily Mail & General Trust Plc in Britain. Member of the Board of Trinity College Dublin Foundation. Joined the Board in 1988. Scheduled to retire from the Board at the AGM in May 2007. (Age 60) Donal Forde* MSc Managing Director, AIB Bank, Republic of Ireland. Joined AIB in 1978. Appointed Head of Treasury Services in 1998 and General Manager, Strategic Development Unit, AIB Bank in September 1999; assumed his current position in 2002. Director of Hibernian Group PLC. Fellow and former President of the Institute of Bankers in Ireland and past President of the Irish Banking Federation. Joined the Board in January 2007. (Age 46) Don Godson BE, MIE, FIEI, C.Eng - Remuneration Committee Chairman Chairman of Project Management Holdings Ltd. Former Board Member of the Michael Smurfit Graduate School of Business at University College Dublin. Former Director and Group Chief Executive of CRH plc. Joined the Board in 1997. (Age 67) Anne Maher FIIPM, BCL Board member of the Irish Accounting and Auditing Supervisory Authority, first Chair of the Medical Council’s Performance Committee. Member of the UK Professional Oversight Board, the FTSE Policy Group, and a Governor of the Pensions Policy Institute (UK). Former Chief Executive of The Pensions Board for Ireland. Joined the Board in January 2007. (Age 61) John B McGuckian BSc Econ - Senior Independent Non-Executive Director Chairman of Ulster Television plc, Irish Continental Group plc, and AIB Group (UK) p.l.c., and a Director of a number of other companies in Ireland and the UK. Former ProChancellor of The Queen’s University, Belfast, and former Chairman of The International Fund for Ireland and of the Industrial Development Board for Northern Ireland. Joined the Board in 1977 and appointed Senior Independent Non-Executive Director in 2003. Scheduled to retire from the Board at the AGM in May 2007. (Age 67) 6 Dan O’Connor B Comm, FCA Director of CRH, former President and Chief Executive Officer, GE Consumer Finance Europe, and former Senior Vice- President of General Electric Company. Joined the Board in January 2007. (Age 47) John O’Donnell* FCMA, FCCA - Group Finance Director Joined AIB in 1989 as Associate Director, AIB International Financial Services, becoming Managing Director in 1995. Appointed Managing Director, AIB Corporate Finance in 1996, Head of Investment Banking, AIB Capital Markets in 2001, and Group Finance Director-Designate in July 2005. Joined the Board on 11 January 2006. (Age 52) Sean O’Driscoll B Comm, FCA Group Chief Executive, Glen Dimplex Group. Member of Cork University President’s Consultative Board. Appointed by the Irish Government as a member of the Enterprise Advisory Group advising on the implementation of enterprise strategy for Ireland and a high-level group overseeing Ireland’s Asia strategy. Awarded an Honorary OBE for his contribution to British industry in April 2006. Joined the Board in September 2006. (Age 49) Jim O’Leary MA, MSI Lecturer in economics at the National University of Ireland, Maynooth. Former Chief Economist at Davy Stockbrokers, and former Director of Aer Lingus, the National Statistics Board and Gresham Hotel Group. Joined the Board in 2001. (Age 50) Bernard Somers B Comm, FCA Director of DCC plc, Independent News & Media plc, Irish Continental Group plc, South Wharf plc, and Chairman of eTel Group. Former director of the Central Bank of Ireland. Principal of Somers & Associates, corporate restructuring consultants. Joined the Board in September 2006. (Age 57) Michael J Sullivan JD Served as US Ambassador to Ireland from January 1999 to June 2001 and as Governor of the State of Wyoming, USA, between 1987 and 1995. Director of Kerry Group plc, Sletten Construction Inc., Cimarex Energy, Inc., First Interstate BancSystem, Inc., and a Trustee of the Catholic Diocese of Wyoming. Member of the Bar, State of Wyoming, and Partner, Rothgerber, Johnson & Lyons, LLC. Joined the Board in 2001. (Age 67) Robert G Wilmers Chairman and Chief Executive Officer of M&T Bank Corporation (“M&T”), Buffalo, New York State. Director of The Business Council of New York State, Inc, and the Andy Warhol Foundation. Served as Chairman of the New York State Bankers’ Association in 2002, and as a Director of the Federal Reserve Bank of New York from 1993 to 1998. Joined the Board in 2003, as the designee of M&T, on the acquisition by AIB of a strategic stake in M&T. (Age 72) Jennifer Winter B Sc - Corporate Social Responsibility Committee Chairman Chief Executive, the Barretstown Gang Camp Limited and Director of Project Management Holdings Ltd. Former Vice President GlaxoSmithKline Pharmaceuticals Limited UK and former Managing Director of SmithKline Beecham, Ireland. Joined the Board in 2004. (Age 47) * Executive Directors Board Committees Information concerning membership of the Board’s Audit, Corporate Social Responsibility, Nomination & Corporate Governance, and Remuneration Committees is given in the Corporate Governance statement on pages 40 to 46. Group Executive Committee Eugene Sheehy - Group Chief Executive Shom Bhattacharya - Group Chief Risk Officer Gerry Byrne - Managing Director, AIB Poland Division Colm Doherty - Managing Director, AIB Capital Markets Donal Forde - Managing Director, AIB Bank (RoI) Robbie Henneberry - Managing Director,AIB Group (UK) p.l.c. Steve Meadows - Group Director, Operations & Technology John O’Donnell - Group Finance Director Mary Toomey - Head of Group Strategic Human Resources 7 Group Chief Executive’s Review AIB Group had a tremendous 2006 – all our divisions delivered impressive profit growth. This outcome is directly linked to the skills and endeavours of our staff. I want to thank them for their exceptional contribution over the year. Demand for AIB’s products and services is high. In 2006, we won new business and developed closer relationships with our existing customers in intensely competitive marketplaces. AIB’s growth trend is now well established.We are reaping the rewards for creating and nurturing excellent businesses over the past 40 years. Key figures In 2006, AIB’s adjusted basic earnings per share of EUR 182.8c rose 25% over the 2005 figure. Asset quality was solid as was the Tier 1 capital ratio at 8.2%.The bad debt provision charge at 0.12% was down from 0.15% in 2005 while return on equity was 29%. Operating expenses rose by 14% in 2006.This rise was at a time of increased business volumes, strong revenue growth and major investment in the efficiency of the organisation. AIB’s income continues to rise faster than its costs. Productivity is also improving with the cost income ratio reducing in 2006 by 1.7% to 53.5%. Performance across the group AIB Bank in the Republic of Ireland saw its profit increase by 24% in 2006.The bank’s enhanced range of products and services and its customer relationship ethos saw the bank end the year with 100,000 new active customers. AIB’s new range of savings accounts appealed to existing AIB SSIA customers while also attracting new business. AIB is the bank of choice of business customers in the Republic and business lending growth was healthy in 2006 as was demand for personal loans and mortgages. AIB Card Services and AIB Finance & Leasing also had a successful 2006. Our joint venture with Hibernian Life Holdings Limited had a positive start. AIB Capital Markets’ operating profit in 2006 was up 29%. Strong revenue growth, a very low level of bad debt provisions and good core cost management were key factors in this result. Corporate Banking, which operates globally, had an exceptionally successful year. Its international business is well established and its network of offices is expanding to meet demand. Global Treasury profit before tax declined by 2% which was a very good outcome in difficult markets. Elsewhere, Investment Banking saw its profit before tax rise 62% with Goodbody Stockbrokers enjoying a strong year building on its well established reputation. In 2006, AIB Capital Markets made €51 million after tax from the sale of its 50% share of AIB/BNY Security Services (Ireland) Limited to the Bank of New York. It also made €26 million after tax from certain investment contracts transferred to Aviva, as part of the Ark Life transaction. AIB Bank UK’s operating profit before tax rose by 18%. Loans and deposits increased by 19% and 22% respectively during 2006, with the growth distributed across both the business and personal sectors. Allied Irish Bank (GB) reported buoyant profit growth of 23% to €209 million in 2006.This business bank, acclaimed as one of the best in Britain, continues to extend its range with the recruitment of experienced banking and wealth management specialists and the establishment of new offices. In Northern Ireland, First Trust Bank increased profit before tax by 11%. AIB Poland saw its pre-tax profit grow by a spectacular 56% on a local currency basis.The 8 Polish economy is thriving and BZWBK, AIB’s Polish bank, is well placed to meet the increased demand for loans. three years to complete and will provide AIB with a cost base insensitive to volume, with better quality operations and enhanced customer service. Also in Poland, there was exceptional growth in the mutual fund business where balances have increased by 123% since December 2005. AIB now has 250,000 customers with assets under management. AIB’s Warsaw-based brokerage business had a great year and contributed to a broad base of fee income from Poland. AIB owns a 24% shareholding in M&T, a top US regional bank. In 2006, the contribution from this shareholding was down 4% to US$177 million.This decrease reflects the conversion of M&T’s contribution from US GAAP to IFRS accounting standards. M&T’s net income was up 10% to US$ 839 million in 2006.AIB’s share of M&T after-tax profit in 2006 amounted to €141 million. Major developments AIB continued its sale and leaseback programme in 2006.This programme releases capital which can be better used by the bank to lend to customers. Profit before tax on disposal of property in 2006 included €256 million from the Dublin Bankcentre building, €73 million on the sale of 11 branches in the Republic of Ireland and €29 million on the sale of Donnybrook House. Construction contract income of €96 million reflects the profit earned from the new development at Bankcentre, based on the stage of completion. Single enterprise approach Last year I explained AIB’s desire to make the group more consistently operationally excellent. The single enterprise approach to our operations and technology will reduce our operational risk and help AIB meet service quality and efficiency targets. Progress in this area has been impressive in 2006. This is a programme that will take another two to Strategy Wherever we operate, AIB aims to deliver one distinctive customer proposition. This consists of: • best products - using third party suppliers where appropriate to meet customer needs. • best service with dependability at its heart. • best relationships built by knowledgeable and engaging employees. • best delivery with a wide range of channels available to our customers accessing our services. The future 2006 was a year of solid organic growth for AIB. Ireland is our home market. Growth here continues to be strong and sustained. But the story of 2006 is that AIB’s international business is growing stronger than our Irish business.This is good news as AIB is in a better position now in terms of not being dependent on any one economy. We aim to be in the right markets, providing the right products and services at the right time to the right customers. AIB today is energised, optimistic and confident about the future. Eugene Sheehy Group Chief Executive 5 March 2007 9 Corporate Social Responsibility AIB Group is a leading international financial organisation. As such it has responsibilities in terms of its employees, shareholders, business partners and the products and services that it provides. We are fully committed to the management of all aspects of our business to the highest standards. This is reflected in our corporate social responsibility activities. Community AIB Group aims to add value and benefit to its local communities. Our major initiative is the Better Ireland Programme which provides funding to groups working with disadvantaged children. In the last five years, more than €13 million has been donated to over 1,300 charities throughout Ireland. One of the main elements of the Better Ireland Programme is the Schoolmate project which works with children most at risk of missing school at 17 different locations in Ireland. AIB has invested €1.27 million a year into this project since 2002. In 2005 the most frequently provided Schoolmate activity was after-school or homework clubs. AIB supports staff who offer their time as volunteers, particularly through the Junior Achievement programme which helps young people understand the economics of life in partnership with business and educators. During the 2005/06 academic year we had 62 volunteers teaching programmes to almost 1,500 primary and secondary students in schools across Ireland – the equivalent of over 2,480 volunteer hours. In London, 55 staff took part in London Cares Day, the city’s biggest-ever volunteering day.The AIB staff worked at five schools on gardening projects and mural painting in playgrounds. First Trust Bank has a staff charity programme which has been running since 2000.This year staff in Northern Ireland are set to raise their 500,000th pound for charities, money that in 2006 went to a group of hospice charities – Hospice Care at Home NI. Capital Markets has worked with the Barton Trust to develop a special programme which will allow members of AIB’s junior management personnel develop their leadership skills while working directly with a group of under-privileged children. Some other projects running across AIB Group include: • Allied Irish Bank (GB) supports young people being put through the London Irish Rugby Academy.The objective of the academy is to identify the most talented young rugby players and provide them with a comprehensive development programme. • The ‘Bank of Children’s Smiles’ programme in Poland. In 2006, the programme bought clothing and provided school dinners, stationery, copybooks and colouring books, and launched a Christmas parcel initiative. More than 55,000 children have been helped through this scheme, which was launched in 2003. • Also in Poland, BZWBK’s ‘Summer in the City, Summer in the Country’ initiative provided holidays for over 9,000 children at the seaside or in the mountains. Following the FX charges issue during 2004, an agreement was reached between AIB and the Financial Regulator that when all reasonable efforts had been made to identify individual customers entitled to refunds, any money remaining should be applied to community purposes. During 2006, €10 million was donated to the Community Foundation for Ireland.This group aims to tackle the root causes of isolation and diversity across Ireland. A further €20.6 million was donated to charitable causes in areas including educational disadvantage and research into how a growing immigrant population could be integrated into Irish society. 10 Marketplace Our customers are the foundation of our business. The AIB Code of Business Ethics places the core values of honesty, integrity and fairness at the centre of our relationship with customers as well as with shareholders and other stakeholders. Across all our business areas, customer service standards are issued to staff and customer research and mystery shopping surveys are undertaken. In addition a single set of standards and technology for handling complaints across the group is being introduced this year. In the Republic of Ireland a series of personal customer initiatives were introduced: • Fee free transaction banking for AIB phone and internet banking and debit card users. • A range of new savings and investment products. • AIB was the first Irish bank to offer online international payments for personal customers. • Travel and car insurance products were launched. To reflect the diversity of our customer base,AIB in the Republic of Ireland developed a specific Polish offer which includes a new international service centre in Direct Banking, Polish-speaking staff in branches in areas where many Poles live, an AIB website with information in Polish (www.aib.ie/polska) and marketing material in Polish. Allied Irish Bank (GB) has jointly won Britain’s best business bank, the seventh consecutive time it has topped the poll. AIB Investment Managers won the Best Balanced Pension Fund Award for its Yield Focus Fund in the annual Moneymate Investment Awards.The fund was ranked as the best performing fund with the lowest level of risk over five years. We have a wide range of financial and other information and services on our websites. During 2006 we adopted the WA1 accessibility standards (level 2AA) as provided by the World Wide Web Consortium (W3C).These ensure that our website content can be navigated and read by everyone, regardless of their location, experience or the type of computer technology used. AIB won the Golden Spider Award for Best Financial website which recognised the AIB personal portal and the AIB Internet Banking service.The website was further acknowledged at the Digital Media Awards and won the title Best Consumer Website. AIB Bank RoI’s Banking Support Services and BZWBK’s International Payments and Payment Card Personalisation units achieved ISO accreditation during 2006.This complements existing accredited areas such as Business Services Centre in Belfast and Treasury Operations. 2006 saw AIB‘s largest sponsorship to date – the 2006 Ryder Cup. Independent research confirmed that AIB was the most visible and appealing sponsor of the event.The sponsorship was a success in terms of building our relationships with our customers and building our brand. Environment AIB recognises that we have responsibility not only to our local environments, but also in terms of reducing our impact on the global environment. A Group Environment policy was introduced in 2006. In our head office areas, white paper, coloured paper, cardboard, cans and toner cartridges are being diverted from landfill and recycled. A project was undertaken to replace PCs within Bankcentre, Dublin. Redundant machines are recycled at an approved recycling centre while newer PCs go to a charity called Camara Education.They refurbish these machines and send them to schools in Africa. It is expected that up to 2,800 PCs will be sent by the end of the project. In AIB Bank (RoI), First Trust and Allied Irish Bank (GB) more than 7,500 flat screens were 11 installed as part of the launch of our new branch banking technology.These screens consume over 50% less power than the old cathode ray tube monitors and are 98% recyclable. In 2006 Allied Irish Bank (GB) decided not to send Christmas cards or calendars to its customers. Funds that would have otherwise been spent were donated to a staff nominated charity, Rainbow Trust, which provides support to families who have a child with a life threatening or terminal illness. In the Republic, an environmental initiative in conjunction with the Department of Environment and the Irish Banking Federation was adopted to reduce ATM receipts. All customers now have to specifically request a receipt, thereby reducing littering. The bank has also introduced credit card e- statements, allowing a customer to choose to receive their statement online rather than by paper. It is AIB’s policy to reduce energy consumption and to change to cleaner sources of energy where possible. Energy saving systems and devices are included in office designs, including low energy lighting, improved insulation, intelligent heating control systems and water usage controls. People Our people are very important to us and are our strength in delivering our business objectives.We currently employ more than 24,000 people, mainly in Ireland, the UK, Poland and the US. Our policies support our commitment to be an employer of choice and to provide a working environment which provides challenging objectives and allows employees to continuously develop and be rewarded fairly. In AIB we have a number of policies and practices which support organisational diversity.These include a Code of Business Ethics, harassment policy, equal opportunities policy, fair and formal selection criteria for recruitment, speak up policy, prevention of bullying policy, paternity leave policy, formal induction process, appraisal training for managers, flexible working practices and family friendly practices. In 2006 an AIB Group Diversity statement reflecting all of these policies and practices was developed and will be supported by diversity training for all staff. A major project to achieve the goal of automating HR processes, by giving staff self-service access to two key HR services, learning and performance management, was introduced. The sole recognized trade union for bank officials in the Republic of Ireland, Northern Ireland and Great Britain is the Irish Bank Officials’Association (IBOA). Since February 2000,AIB and the IBOA have conducted their relations in keeping with agreed Partnership principles, which underpin the approach to be taken in employee and industrial relations. The partnership model was used to negotiate and implement a new career, performance management and reward system known as Career Framework in the Republic of Ireland.This programme is designed to incorporate a modern, clear and transparent career, performance and reward structure. It applies to just over 7,000 staff on the traditional incremental pay scales and more than 98% of staff voluntarily opted into the scheme. In the Republic of Ireland, as well as receiving the two general pay increases - 3% in May 2006 and 2% in November 2006 – negotiated as part of the new national pay agreement, Towards 2016, staff in scope for Career Framework received an additional pay increase of 2.5%. In 2006, staff in Northern Ireland and Great Britain received annual pay increases of 2.8%.The average salary increase in the Poland division was 2.4%. We survey all our staff at least once every two years. In autumn 2006, every employee was 12 afforded the opportunity to participate in a comprehensive survey covering topics such as organisation culture, customer focus, performance management, reward, local management, leadership, and employee engagement.The response rate to the survey was 82% representing over 18,700 staff. The survey findings are positive and encouraging, with strong improvements since the last full survey in 2004. Aspects of particular note include: • A strong confidence in customer focus and in particular improvements in views on the effectiveness of internal processes in delivery of our services. • Performance evaluation is a particular strength, but there are indications that our skills with regard to ongoing performance feedback require continuing work. Investment in recent years in management development has produced real results in regard to our people management skills, such as delegation and training. • • Employee engagement is, in the main, strong, but there are some areas where we need to improve. Survey reports were provided to 694 individual teams, with over 1,000 reports in all being made available.This enables the business to gain an understanding of staff perspectives on working life in AIB at many levels and ensures management can work on the issues of real importance to staff and the business. Employee Information AIB Group Total employees Voluntary attrition rate (%) Permanent/Temporary Staff (%) Part-time/Full time Staff Male/Female employees(%) The next full staff survey will be in autumn 2008. Other people initiatives include: • AIB Capital Markets Business Support Services (CMBSS) became the first financial services organisation to be awarded the prestigious FAS Excellence Through People Platinum Standard. This top level award was presented for implementing best practice in HR management. CMBSS was praised across a wide range of criteria including business planning, quality improvement, communications, work life balance and good management.The assessment also gave special praise to the overall AIB Group Corporate Social Responsibility policies. • BZWBK was awarded the Investor in Human Capital title – the only bank among 15 companies to receive the honour.The award is made to companies which are recognised as leaders in human resource management.They were praised for recognising the role of staff in developing company values, promoting staff development and building positive relationships with and among staff. • Under the AIB Graduate Progamme, high- potential graduates in their first year in the organisation are put through an intensive programme including development workshops, master classes from external industry leaders and our senior executives and coaching support from their line manager. 2005 24,403 5% 91.6%(P) 8.4% (T) 11% (PT) 89% (FT) 34% (M) 66% (F) 2006 24,085 6% 91.5% (P) 8.5% (T) 10.9% (PT) 89.1% (FT) 35% (M) 65% (F) 13 Performance review Translation of foreign locations’ profits Approximately 29% of the Group’s earnings are denominated in currencies other than the euro. As a result, movements in exchange rates can have an impact on earnings growth. In 2006, the US dollar and Sterling average accounting rates remained broadly stable relative to the euro and the Polish zloty strengthened relative to the euro by 3% compared with the year to December 2005. Divisional information The business of AIB Group is operated through four major operating divisions as described below: AIB Bank ROI division The AIB Bank RoI division, with total assets of € 66.2 billion at December 31, 2006 encompasses the Group’s retail and commercial banking operations in Ireland, Channel Islands and Isle of Man; AIB Finance & Leasing; the Card Acquiring and Card Issuing businesses and AIB’s life and pensions joint venture with Aviva. AIB Bank ROI provides banking services through a distribution network of some 275 locations (187 branches, 84 outlets and 4 business centres), and in excess of 750 automatic teller machines (“ATMs”). AIB cardholders also have access to over 56,000 LINK ATMs in the UK as well as close to 1 million Visa Plus serviced ATMs worldwide. AIB has an agency agreement with An Post, the national post office network, which enables AIB personal and business customers to carry out basic transactions at over 1,000 post office locations nationwide. AIB also offers customers a Debit card, which is co-branded Laser and Maestro and secured by the latest CHIP and PIN technology. This card provides customers Point of Sale access domestically via the Laser Scheme (“Laser” is operated jointly with other financial institutions in Ireland), ATM access domestically via bi-lateral agreements and internationally at any Point of Sale or ATM that displays the Maestro symbol. In addition, the division offers Internet and Telephone Banking services for personal customers, who can avail of a range of services including; view account information, pay bills, transfer money domestically and internationally, open savings accounts, apply for and draw down loans, purchase general insurance, top up mobile phones and buy and sell shares.The Internet banking service is protected by market leading, two-factor, authentication security features. For business customers, an internet based banking service called iBusiness Banking is available. It offers secure internet banking and a comprehensive cash management solution, including domestic and cross-border payment functionality. Branch Banking services are provided through a comprehensive relationship management structure to a full range of customer segments, including individuals, small and medium sized businesses (“SME’s”), farmers and large commercial and corporate clients.Through the branch network, the division provides a broad suite of savings and investment products, loans and overdrafts, home mortgages, payment services and foreign exchange facilities, and also issues Visa® and Mastercard® Credit Cards. AIB Finance & Leasing is AIB’s asset financing arm in Ireland. It markets its services through the AIB branch network and through intermediaries with whom it has established relationships, such as motor dealers, equipment suppliers, brokers and other professionals, including lawyers, accountants and estate agents. It also lends directly to customers. Its lending services include vehicle, equipment and fleet leasing, retail and investment property loans, vehicle and equipment hire purchase, insurance premium financing and personal loans. AIB Wealth Management unit comprises Private Banking and Investment & Protection. It provides a wide range of Wealth Management offerings, including Retirement, Investment and Tax Planning. AIB’s joint venture with the Aviva subsidiary Hibernian Life & Pensions Limited provides a full range of products in this sector. In Ireland, general insurance products are sold in the branch network through alliances with partners in the insurance industry. Capital Markets division The activities of AIB Capital Markets, with total assets of € 54.1 billion at December 31, 2006, comprise corporate banking, 14 global treasury (with the exception of the International Banking Services in BZWBK) and investment banking, which includes the asset management and stockbroking activities of the Group.These activities are delivered through AIB Corporate Banking, Global Treasury, Investment Banking and Allied Irish America (“AIA”). AIB Corporate Banking provides a fully integrated, relationship-based banking service to top-tier companies, both domestic and international, including financial institutions and Irish commercial state companies. AIB Corporate Banking’s activities also include a dedicated unit focusing on developing and arranging acquisition and project finance principally in Ireland, the UK and Continental Europe, and has established Mezzanine Finance funds and CDO funds.The cumulative size of the CDO funds at December 31, 2006 was € 1.6 billion. Global Treasury through its treasury operations, manages on a global basis, the liquidity and funding requirements and the interest and exchange rate exposure of the Group. In addition, it undertakes proprietary trading activities, and provides a wide range of treasury and risk management services to corporate, commercial and retail customers of the Group. It also provides import and export related financial services through its international activities. Investment Banking provides a comprehensive range of services, including corporate finance through AIB Corporate Finance Limited; corporate finance and stockbroking through Goodbody Stockbrokers; structured cross- border financing transactions and sophisticated back-office services through AIB International Financial Services Limited and asset management through AIB Investment Managers Ltd (“AIBIM”). AIBIM manages assets principally for institutional and retail clients in the Republic of Ireland, with € 9.3 billion of funds under management. Investment Banking services also include the management of alternative asset management activities (i.e. hedge funds), venture capital funds and property fund activities (principally in Polish properties). During the year, the division sold its 50% stake in AIB/BNY Securities Services (Ireland) Ltd to its joint venture partner, Bank of New York. legal entity, AIB Group (UK) p.l.c., registered in the UK and regulated by the FSA (Financial Services Authority). GGrreeaatt BBrriittaaiinn In this market, the Division operates under the trading name Allied Irish Bank (GB) from 32 full service branches and 8 business development offices.The Divisional Head Office is located in Uxbridge, in West London, with significant back office processing undertaken at a Divisional Processing Centre in Belfast. A full service is offered to business and personal customers, although there is a clear focus on relationship banking to the mid-corporate business sector, professionals, and High Net Worth individuals. AIA’s core business activities are Corporate Banking services within the not for profit sector, operating principally from New York, but also with offices in a number of other US cities. AIB Capital Markets is headquartered at Dublin’s International Financial Services Centre and has operations in a number of principal UK, US and Polish cities, Frankfurt, Paris, Luxembourg, Budapest and Zurich and has recently established Corporate Banking offices in Toronto and Sydney. AIB Bank UK division The AIB Bank UK division, with total assets of € 24.6 billion, operates in two distinct markets, Great Britain and Northern Ireland, with different economies and operating environments. AIB UK is a division of Allied Irish Banks p.l.c., and also a separate are offered from London, Birmingham, and Manchester, with particular expertise in the commercial property, education, health and charity sectors. For the seventh consecutive time, AIB (GB) has won the title of “Britain’s Best Business Bank” from the Forum of Private Business, being ranked top for customer service and maintaining its lead over other major banks. NNoorrtthheerrnn IIrreellaanndd In this market, the Division operates under the trading name First Trust Bank from 57 full service branches throughout Northern Ireland.The First Trust Bank Head Office is located in Belfast, together with the Divisional Processing Centre. 15 through the mobile sales network (self-employed financial advisors) and outlets of the financial intermediary. Both distribution channels were established in 2006 to acquire new customers in locations which are not covered by the bank’s branch network. Performance review A full service is offered to business and personal customers, across the range of customer segments, including professionals and High Net Worth individuals, small and medium sized enterprises, and the corporate sector. Specialist services, including mortgages, credit cards, invoice discounting and asset finance are based in Belfast and delivered throughout the Division. First Trust Independent Financial Services provides sales and advice on regulated products and services, including protection, investment and pension requirements to the whole of the Division. Poland division Poland division, with total assets of € 7.2 billion at December 31, 2006 comprises Bank Zachodni WBK (“BZWBK”) in which AIB has a 70.5% shareholding, together with its subsidiaries and associates. BZWBK wholesale treasury and an element of BZWBK investment banking subsidiaries’ results are reported in Capital Markets division. AIB completed the merger of its Polish operations in 2001, forming BZWBK which is now Poland’s fifth largest bank. As at end 2006 Poland Division reported total assets of PLN 26.4 billion (EUR 6.9 billion), operated through 384 branches and 608 ATMs, and employed approximately 7,860 staff, including those in subsidiaries. BZWBK’s registered office is located in Wroclaw in south-western Poland. Key support functions are also located in offices based in Poznan and Warsaw. BZWBK is a universal bank providing a full range of services for retail customers, small and medium-sized enterprises and corporate companies.The bank’s offering is modern, comprehensive and satisfies diverse customer needs with regard to current/personal accounts, credit, savings, investment, settlement, insurance and card products. Apart from core banking facilities, the offering of the bank includes custodian services, trade finance, transactions in the capital, FX, derivatives and money markets. Complementary to the bank’s own product range are the specialized services provided in cooperation with subsidiaries, e.g. brokerage services, mutual funds, asset management, leasing and factoring products.The bank aligns its product structure and services with the requirements of individual customer segments in line with the adopted Customer Relationship Management (CRM) model.To increase efficiency of its operations, BZWBK encourages the use of its electronic banking services called BZWBK24 which give retail and business customers a convenient and safe access to the accounts via phone, mobile or the Internet, facilitate fund management and purchase of standard products (cash loans, credit cards, insurance).The bank operates mainly in the western part of the country and also has a significant presence in major urban areas across Poland such as Warsaw, Krakow, Gdansk and Lodz. BZWBK Corporate Business Centers based in Warsaw, Poznan,Wroclaw, Krakow, Gdansk, Szczecin and Katowice provide direct and comprehensive relationship-based services to large and mid-sized corporates.The bank’s products are also available 16 Earnings per share The table below shows the basic earnings per share excluding profit on disposal/development of property(1), profit on disposal of businesses(2) and adjusting for hedge volatility(3). Earnings per share Basic - continuing operations(4) Basic - discontinued operations Basic - total less profit on disposal/development of property(1) less profit on disposal of businesses(2) adjust for hedge volatility under IFRS(3) Adjusted basic earnings per share Year 2006 233.5c 13.3c 246.8c (42.8c) (21.7c) 0.5c 182.8c Year 2005 145.7c 5.3c 151.0c (4.4c) - (0.7c) 145.9c % change 2006 v 2005 60 - 63 - - - 25 (1) Includes profit on new Bankcentre development (construction contract income) and profit on the disposal of the existing Bankcentre (€ 352 million before tax, € 289 million after tax), profit on disposal of Donnybrook House (€ 29 million before tax, € 25 million after tax) and profit on sale of 11 branches in the Republic of Ireland (€ 73 million before tax, € 58 million after tax). (2) Profit on disposal of Ark Life discontinued operation (€ 112 million after tax), profit from the sale of 50% stake of AIB/BNY Securities Services (Ireland) Limited to the Bank of New York Company (€ 51 million after tax) and the transfer by Ark Life of the management of certain investment contracts to Aviva as part of the disposal of Ark Life (€ 26 million after tax). (3) The impact of interest rate hedge volatility (hedging ineffectiveness and derivative volatility) under IFRS was a decrease of € 4 million to profit before taxation for the year (€ 4 million after tax). (4) Continuing operations exclude Ark Life, which is reported as a discontinued operation following its disposal, which was announced in 2005 (transaction completed 30 January 2006). Basis of presentation The following commentary is on a continuing operations basis. The growth percentages are shown on an underlying basis, adjusted for the impact of exchange rate movements on the translation of foreign locations’ profit and excluding interest rate hedge volatility (hedging ineffectiveness and derivative volatility) under IFRS. Total operating income Total income increased by 18% to € 4,326 million. Total operating income Net interest income Other income Total operating income Average interest earning assets Average interest earning assets (1) This particular analysis is not adjusted for the impact of exchange rate movements. Net interest margin Group net interest margin Year 2006 € m 2,999 1,327 4,326 Year 2006 € m Year 2005 € m 2,530 1,117 3,647 Year 2005 € m Underlying % change 2006 v 2005 18 17 18 % change (1) 2006 v 2005 132,542 106,380 25 Year 2006 % 2.26 Year 2005 % 2.38 Basis point change -12 17 Performance review Other income Dividend income Banking fees and commissions Investment banking and asset management fees Fee and commission income Fee and commission expense Trading income Currency hedging profits/(losses) Interest rate hedgevolatility Net trading income Other operating income Total other income Net interest income Net interest income increased by 18% to € 2,999 million in the year to December 2006. The key drivers of the increase were strong loan and deposit growth in Republic of Ireland, UK and Poland. Loans to customers increased by 26% and customer accounts increased by 19% on a constant currency basis since 31 December 2005 (details of loan and deposit growth by division are contained on page 20). The domestic and foreign margins for 2006 are reported on page 143. AIB Group manages its business divisionally on a product margin basis with funding and groupwide interest exposure centralised and managed by Global Treasury. While a domestic and foreign margin is calculated for the purpose of statutory accounts, the analysis of net interest margin trends is best explained by analysing business factors as follows: The Group net interest margin amounted to 2.26%, a decrease of Year 2006 € m 23 921 314 1,235 (161) 167 10 (4) 173 57 1,327 Year 2005 € m 17 863 198 1,061 (145) 119 (13) 6 112 72 1,117 Underlying % change 2006 v 2005 35 6 57 16 10 37 - - 37 -23 17 12 basis points compared with 2005. The margin attrition between 2005 and 2006 was reduced by a lower level of growth in Treasury assets compared with the growth in retail and commercial assets. This mix impact reduced the margin attrition to 12 basis points from an underlying attrition of 16 basis points. The underlying margin reduction of 16 basis points was due to a combination of the following factors: (a) loans increasing at a faster rate than deposits. (b) lower yields on the re- investment of deposit and current account funds as they mature. (c) a changing mix of products where stronger volume growth has been achieved in lower margin products; corporate loans, home loans and prime rate advances on the lending side and term deposits and other lower margin products on the deposit side. (d) competitive pressures on loan and deposit pricing. The margin reduction continues to be impacted by average loans increasing at a greater rate than average deposits compared with 2005.While this strong lending growth generated good incremental profit, the funding impact resulted in a reduction in the overall net interest margin calculation when net interest income is expressed as a percentage of average interest earning assets. The impact of low yields on the investment of deposit and current account funds particularly affected AIB Bank Republic of Ireland and Poland divisions. As interest rates increase and more of the funds reinvest, over time the impact of this factor is expected to reduce. While it is difficult to disaggregate trends in product margins between mix and competitive factors, competitive pricing behaviour did impact loan and deposit margins.The Group’s new business lending continued to meet targeted return on capital hurdles. Other income Other income was up 17% to € 1,327 million since the year to December 2005. Dividend income increased by 35% mainly reflecting growth in dividends from investments held by the Polish business. Banking fees and commissions increased by 6%, reflecting increased business and transaction volumes in AIB Bank Republic of Ireland and Corporate Banking and good growth in credit card revenue in Ireland. Investment banking and asset management fees increased by 57% 18 Operating expenses Personnel expenses General and administrative expenses Depreciation(1)/amortisation(2) Total operating expenses Year 2006 € m 1,502 672 140 2,314 (1) Depreciation of property, plant and equipment. (2) Amortisation/impairment of intangible assets and goodwill. Provisions Provisions for impairment of loans and receivables Provisions for liabilities and commitments Amounts written off financial investments available for sale Total provisions Year 2005 € m 1,298 583 130 2,011 Year 2006 € m 118 (15) 1 104 Underlying % change 2006 v 2005 15 14 6 14 Year 2005 € m 115 20 8 143 driven by particularly strong performances in Asset Management in Poland and BZWBK’s brokerage operation and very good growth in Goodbody stockbrokers.Total fee and commission income was up 16%, driven by the 57% increase in investment banking and asset management fees and the 6% increase in banking fees and commissions. Trading income increased, with strong growth in foreign exchange and interest rate management activities. Trading income excludes interest payable and receivable arising from these activities, which is included in net interest income. Accordingly the above trading income does not give the full picture in terms of trading activities, largely in Global Treasury. Interest income in Global Treasury decreased and total income was broadly flat relative to 2005. Other income as a percentage of total income remained the same as 2005 at 31%. Total operating expenses Operating expenses increased by 14% compared with 2005. Operating expenses increased by 14%, in a period of substantially increased business volumes and strong growth on the revenue line. As a consequence of the continuing growth opportunities available to the business and in order to develop capabilities to exploit them, the Group is investing in various programmes to sustain the long-term health and development of the business.This has included investment in appropriate skills, in enhanced reward systems, the ongoing building of common operating systems in line with our single enterprise agenda and in developing a resilient risk, compliance and corporate governance framework (including Sarbanes Oxley and Basel II). Excluding regulatory driven costs, performance related remuneration resulting from very strong revenue growth and investment in our risk, compliance and corporate governance framework, the increase in costs was 9%. Personnel expenses increased by 15% reflecting a higher level of variable performance related remuneration linked to the strong revenue outperformance and salary increases. General and administrative expenses were up 14% mainly due to consultancy, systems and infrastructure costs to ensure compliance with the changing regulatory requirements and to sustain the long-term development of the business. Depreciation/amortisation increased by 6%, reflecting the commencement of depreciation on the aforementioned recent investment initiatives. Productivity improved with the cost income ratio reducing by 1.7% to 53.5% from 55.2% in 2005. Provisions Total provisions were € 104 million, down from € 143 million in 2005. The provision for impairment of loans and receivables was € 118 million compared with € 115 million in 2005, representing a charge of 0.12% of average loans compared with 0.15% in 2005. The lower charge reflects strong asset quality, good recoveries and a benign credit environment. Impaired loans as a percentage of total customer loans decreased from 1.0% at 31 December 2005 to 0.9% at 31 December 2006 with the total provision coverage for impaired loans at 76%. In AIB Bank Republic of Ireland asset quality continued to 19 Performance review be strong. Impaired loans as a percentage of total customer loans reduced to 0.6% at 31 December 2006 from 0.7% in 2005. The provision charge was 0.15% of average loans compared with 0.11% in 2005. The quality across all sectors of the retail and commercial portfolios remains very good. In Capital Markets the provision charge was 0.02% compared with 0.22% in 2005 reflecting a strong level of provision recoveries, through realisation of exposures during the period as a result of the benign credit environment and strong liquidity in the corporate market. Impaired loans reduced to 0.6% from 0.7% of total customer loans at 31 December 2005. In the UK division, the provision charge remained at 0.13% of average loans and impaired loans remained at 0.9% of total customer loans compared with 31 December 2005. The provision charge in Poland decreased to 0.23% of loans from 0.40% in 2005. Asset quality continued to improve with the ratio of impaired loans as a percentage of customer loans declining to 4.9% from 6.8% at 31 December 2005. There was a net credit in provisions for liabilities and commitments of € 15 million in 2006 compared with a provision of € 20 million in 2005, while provisions for amounts written off financial investments were € 1 million compared to € 8 million in 2005. Risk weighted assets, loans to customers and customer accounts (excluding currency factors) % change 31 December 2006 v 31 December 2005 AIB Bank Republic of Ireland Capital Markets AIB Bank UK Poland AIB Group (1) Excludes money market funds. Associated undertakings The profit in 2006 was € 167 million compared to € 149 million in 2005 and mainly reflects AIB’s 24.0% average share of the income after taxation of M&T Bank Corporation and income after taxation from the joint venture in Life and Pensions with Hibernian. M&T’s contribution of US$ 177 million was down 4% relative to the year to December 2005 contribution of US$ 185 million. This decrease reflects the conversion of M&T’s contribution from US GAAP to IFRS. The bank’s application of IFRS to M&T’s US GAAP numbers gave a lower result due to the movement of previously unallocated credit provisions to specific provisions in M&T’s books (which are now classified as specific provisions under IFRS and reduce the M&T profit reported in AIB’s books by € 15 million). The profit in 2006 also included € 8 million from the disposal of investments in associated undertakings. Risk weighted assets % change Loans to Customer accounts(1) % change customers % change 36 8 19 26 22 32 17 19 23 26 20 9 22 16 19 The following commentary is in respect of the total Group. Balance sheet Total assets amounted to € 159 billion at 31 December 2006 compared to € 133 billion at 31 December 2005. Adjusting for the impact of currency, total assets were up 20% and loans to customers were up 26% since 31 December 2005 while customer accounts increased by 19%. Risk weighted assets excluding currency factors increased by 22% to € 123 billion. Assets under management/ administration and custody Assets under management in the Group amounted to € 17 billion at 31 December 2006 compared with € 16 billion at 31 December 2005. AIB sold its 50% stake in AIB/BNY Securities Services (Ireland) Limited to its joint venture partner, Bank of New York during 2006. Assets under administration and custody relating to the AIB/BNY joint venture at 31 December 2005 were € 220 billion. 20 Income tax expense The taxation charge was € 433 million compared with € 319 million in the year to December 2005.The effective tax rate was 16.6% compared with 18.7% (or 17.0% excluding the bank levy) in the year to December 2005.The taxation charge excludes taxation on share of results of associated undertakings. Share of results of associated undertakings is reported net of taxation in the Group profit before taxation.The effective tax rate is influenced by the geographic mix of profits, which are taxed at the rates applicable in the jurisdictions where we operate. Return on equity and return on assets The return on equity was 29.0%, compared to 20.6% in 2005. The return on assets was 1.63%, compared to 1.20% in 2005. Capital ratios A strong capital position was reflected in a Tier 1 ratio at 8.2% and a Total capital ratio of 11.1%. Outlook We operate in strong high growth economies and sectors which serve as firm foundations for our business. In 2007, income is again expected to grow at a faster rate than costs, driven by the strength of the customer business pipeline and focus on further productivity gains. Asset quality is expected to remain solid with the provision for bad debts anticipated to show only a moderate increase on the exceptionally low level in 2006. Based on these factors, we are targeting low double-digit growth in 2007 adjusted basic earnings per share compared to the adjusted basic earnings per share of EUR 182.8c in 2006. Cashflow As reflected in the consolidated statement of cash flows for the Group, there was a net increase in cash of € 6,891 million during the year ended 31 December 2006. Net cash inflow from operating activities was € 8,645 million. Cash inflows from financing were € 153 million.The issue of preferred securities generated cash inflows of € 1,008 million. Cash outflows from taxation were € 481 million while cash outflows in relation to equity dividends were € 587 million. Cash outflows as a result of investing activities were € 1,907 million, due primarily to net increases in financial investments of € 2,477 million, offset by cash inflows from the disposal of property, plant and equipment of € 489 million. Statement of recognised income and expense (“SORIE”) The total recognised gains relating to the year amounted to € 2,006 million compared to recognised gains of € 1,295 million in 2005. Profit for the year ended 31 December 2006 was € 2,298 million compared to € 1,433 million in 2005. Currency translation adjustments amounted to € 149 million negative compared to € 301 million positive in 2005.The currency translation difference principally relates to the change in value of the Group’s net investment in foreign operations arising from the weakening of the euro against the currencies in which the net foreign investments are held. The net change in cash flow hedges was € 283 million negative in 2006. In accordance with IAS 39, the portion of the gain or loss on the hedging instrument deemed to be an effective hedge is recognised in the cashflow hedge reserve. Deferred gains and losses are transferred to the income statement in the period during which the hedged item affects profit or loss. The net change in available for sale securities was € 13 million negative in 2006.This represents the net change in fair value of available for sale securities recognised in equity for the period. The actuarial gain in retirement benefit schemes during 2006 charged to the SORIE, net of deferred tax, of € 35 million, amounted to a gain of € 200 million compared to a loss of € 285 million in 2005.The actuarial gain included experience loss on liabilities of € 121 million offset by a € 234 million experience gain on the pension scheme assets and a positive € 114 million impact from changes in the discount ratio offset by changes in mortality assumptions.The net pension scheme deficit on funded schemes recognised within shareholders’ equity was € 854 million compared with a net pension deficit of € 1,137 million at 31 December 2005. 21 Divisional commentary On a divisional basis, profit is measured in euro and consequently includes the impact of currency movements. The underlying percentage change is reported in the divisional income statements adjusting for the impact of exchange rate movements on the translation of foreign locations’ profit. The following commentary is on a continuing operations basis. AIB Bank Republic of Ireland income statement Net interest income Other income Total operating income Personnel expenses General and administrative expenses Depreciation/amortisation Total operating expenses Operating profit before provisions Provisions for impairment of loans and receivables Provisions for liabilities and commitments Amounts written back financial investments available for sale Total provisions Operating profit Associated undertakings Profit on disposal of property Profit before taxation - continuing operations Year 2006 € m 1,581 434 2,015 675 270 55 1,000 1,015 78 (4) (1) 73 942 18 6 966 Year 2005 € m 1,314 376 1,690 568 250 49 867 823 45 10 - 55 768 (1) 12 779 Underlying % change 2006 v 2005 20 15 19 19 8 12 15 23 75 - - 33 23 - -47 24 AIB Bank Republic of Ireland profit of € 966 million was up 24% AIB Bank Republic of Ireland Retail and commercial banking operations in Republic of Ireland, Channel Islands and Isle of Man; AIB Finance and Leasing; Card Services and Hibernian Life Holdings Limited, AIB’s joint venture with Aviva Group p.l.c. in the life and pensions business. AIB Bank Republic of Ireland generated growth in profit before tax of 24% from its continuing operations underpinned by a buoyant Irish economy and a refined and dynamic business model. Operating income was up 19% and operating expenses were up 15% with the operating income/cost gap at +4%. The strong profit growth reflects increased customer demand for a competitively priced product range driven by a strong customer relationship management ethos in both front-line and back-office activities. Loans and deposits increased by 32% and 20% respectively since 31 December 2005. AIB benefited from a pricing strategy to retain maturing SSIAs and deposit growth exceeded that of the overall market. Similarly total loan growth was ahead of the market and was well spread across business, personal and mortgage sectors. Operating expenses were up 15%. Key drivers were growth in staff numbers reflecting the increased levels of business activity, annual salary inflation, the impact of a new career framework pay structure, performance related costs, a higher advertising spend and increased costs associated with a number of mandatory/regulatory driven project costs. The strong operating performance is reflected in a further improvement in the cost income ratio to 49.6% compared with 51.3% in 2005. Asset quality remains good and the provision charge for the year to 31 December 2006, was 0.15% of average loans, up 0.04% compared with the year to 31 December 2005. Retail Banking reported a very strong out-turn for the year where business lending growth continued to be exceptionally strong and personal lending, home mortgages and private banking also experienced excellent growth. Profit growth in AIB Card Services also increased significantly benefiting from strong growth in revenue. AIB Finance & Leasing saw solid operating profit growth reflecting increased new business levels across all key sectors. In early 2006, AIB completed its joint venture with Hibernian Life Holdings Limited of which AIB owns 24.99%. This represents an important part of the AIB wealth management platform in the distribution of life and pension products. The share of operating profit of associated undertakings from Hibernian Life Holdings Limited was € 11 million in 2006. 22 Year 2006 € m 490 464 954 302 123 13 438 516 5 1 2 8 508 2 79 589 Capital Markets income statement Net interest income Other income Total operating income Personnel expenses General and administrative expenses Depreciation/amortisation Total operating expenses Operating profit before provisions Provisions for impairment of loans and receivables Provisions for liabilities and commitments Amounts written back financial investments available for sale Total provisions Operating profit Associated undertakings Profit on disposal of property Profit before taxation Capital Markets division profit of € 589 million was up 46%. Operating profit up 29%. Capital Markets Corporate Banking, Global Treasury, and Investment Banking. Profit before taxation of € 589 million, including profit on disposal of businesses, grew by 46% on 2005 or 29% on an operating profit basis driven by strong revenue growth, an exceptionally low level of bad debt provisions and good core cost management in each of the key business areas. Corporate Banking performed exceptionally well, with profit before provisions up 26% and profit before taxation up 42%. Loans were up by 17%, driven by continued focus on customer relationships and new product development. Growth in established international businesses, new structured product initiatives and the opening of new overseas offices contributed to the underlying performance. Overall Global Treasury profit before tax declined marginally (2%) on 2005, against a backdrop of significant challenges in money markets impacted by increased interest rates and inflationary pressures. This belied particularly strong growth in the customer treasury business in Ireland, Britain and Poland and a robust performance in bond management activities. Investment Banking experienced exceptional growth with profit before tax up 62%, reflecting quality product development and strong customer relationships, particularly in Polish asset management and stockbroking services. In Ireland stockbroking reflected strong growth in equity trading, corporate advisory services and structured investments. Costs continued to be managed closely with higher performance related costs partly offset by the impact of selective business rationalisation in 2005 and notwithstanding the impact of once-off technology, compliance and marketing costs, the division’s cost Year 2005 € m 435 407 842 280 103 17 400 442 34 4 8 46 396 2 5 403 Underlying % change 2006 v2005 13 14 13 8 19 -21 10 17 -86 -72 -78 -84 29 -26 1,615 46 income ratio decreased to 45.9% from 47.5% in 2005. Strong recoveries of credit provisions arising from realisation of exposures, was a factor during the year and a conservative approach to credit management continued to prevail in a benign global credit environment. Profit on disposal of businesses arose from the transfer by Ark Life of the management of certain investment contracts to Aviva, as part of the Ark Life disposal (€ 26 million after tax), and from the sale of our 50% share of AIB/BNY Security Services (Ireland) Limited to the Bank of New York Company (€ 51 million after tax). The division’s growth continues to be underpinned by its ability to identify and bring to market new quality product initiatives within profitable sectors and niches. 23 Year 2005 € m 516 148 664 224 89 10 323 341 21 320 2 322 Underlying % change 2006 v2005 14 4 12 6 4 12 6 18 26 18 - 17 € 170 million representing 11% growth on last year. Loan and deposit balances were up 26% and 19% respectively when compared with 31 December 2005, with strong growth in business and mortgage lending activity combining with significant growth in current account balances. Costs increased by 8% impacted by normal salary increases and by increased operating costs, the latter reflecting additional investment in the personal market and improvements to the branch network technology platform. The cost income ratio improved marginally from 48.6% to 48.2%. Divisional commentary AIB Bank UK income statement Net interest income Other income Total operating income Personnel expenses General and administrative expenses Depreciation/amortisation Total operating expenses Operating profit before provisions Provisions Operating profit Profit on disposal of property Profit before taxation AIB Bank UK division profit was up 17% to € 379 million AIB Bank UK Retail and commercial banking operations in Great Britain and Northern Ireland. AIB Bank UK division reported another strong business performance in 2006 with profit before taxation increasing by 17%, continuing the trend of strong double-digit growth in recent periods. Loans and deposits increased by 19% and 22% respectively during 2006, with the growth well spread across both the business and personal sectors. Customer deposit and current account balances grew very strongly, with excellent growth in personal and business current accounts. Net interest income increased by 14%. Other income increased by 4%, with an increased focus on diversifying income away from traditional sources of fee income towards alternative income streams. Operating expenses increased by 6%, due to normal salary increases and investment in customer and corporate marketing Year 2006 € m 593 154 747 238 94 11 343 404 26 378 1 379 activity. Overall, the cost income ratio improved significantly from 48.7% to 45.9%, reflecting a combination of the strong revenue growth and management action taken to manage cost growth. The bad debt chage of 0.13% of average loans, is consistent with 2005 and reflects the good credit quality in the portfolio. Allied Irish Bank (GB), which focuses on business banking, reported strong profit growth of 23% to € 209 million in 2006. This growth was primarily driven by a combination of strong lending and deposit volume growth and by good management of lending margins in a competitive environment. Loan and deposit balances increased by 16% and 24% respectively since 31 December 2005, with growth in lending balances increasing to 24% when measured on an average balance basis. Costs increased by 4% when compared with last year, reflecting good cost management, with a resultant improvement in the cost income ratio from 48.7% to 44.1%. In Northern Ireland, First Trust Bank increased profit before tax to 24 Poland income statement Net interest income Other income Total operating income Personnel expenses General and administrative expenses Depreciation/amortisation Total operating expenses Operating profit before provisions Provisions for impairment of loans and receivables Provisions for liabilities and commitments Total provisions Operating profit Associated undertakings Profit before taxation Year 2006 € m 236 302 538 170 120 40 330 208 9 (2) 7 201 6 207 Year 2005 € m 205 222 427 137 99 44 280 147 14 1 15 132 - 132 Underlying % change 2006 v2005 11 32 22 18 16 -14 12 41 -36 - -53 52 - 56 Poland division profit was € 207 million, up 56%. Poland Bank Zachodni WBK (“BZWBK”), in which AIB has a 70.5% shareholding, together with its subsidiaries and associates. BZWBK Wholesale Treasury and Capital Markets share of certain Investment Banking subsidiaries results are reported in Capital Markets division. Profit before taxation grew by an exceptional 56% on a local currency basis. This reflected the very strong momentum across the business lines of the division in a favourable economic climate, resulting in significantly higher business activity and volumes. Total operating income increased by 22% with net interest income up by 11%. There was a substantial pick up in the demand for credit in 2006, with momentum particularly noted in the second half-year. Total loans increased by 23% from December 2005 due to strong business lending growth, which was ahead of the market growth, and the ongoing pick up in retail lending. Mortgage growth at 26% benefited in the second half-year from the reduced market preference for foreign exchange denominated lending and growing customer demand for zloty mortgages, the sector in which the bank actively participates. Overall lending margins were largely flat reflecting improved product mix, offsetting increasing competition in business and mortgage lending. Customer deposits increased by 16% from December 2005, with growth primarily in current accounts and foreign exchange deposits. Business deposits increased by 26%. Personal deposits were higher by 8% which is a strong performance given customer preference for mutual funds in the market. Lower interest rates and increased competition reduced deposit margins, which was somewhat compensated for by a better product mix. Other income growth of 32% was driven by a variety of positive factors, primarily by the exceptional growth in the mutual fund business where balances increased by 123% since December 2005 and market share increased to 17.4% at 31 December 2006 from 12.6% at 31 December 2005. A high level of sales and favourable portfolio mix resulted in asset management net income growth of 202%. The brokerage business enjoyed a tremendous year, buoyed by the performance of the Warsaw Stock Exchange in 2006 with substantial increases in turnover and resultant fee income. In addition, dividends, equity investment disposals, foreign exchange income and e-business and payment fees all contributed to the strong growth recorded in other income. Operating expenses increased by 12% reflecting increased business activity and investment in developing the franchise in Poland. Staff costs increased by 18% reflecting higher staff numbers, substantial increase in performance related costs, including a once-off year end payment to staff related to the very strong revenue growth. Operating costs continue to be carefully managed. Better business generation opportunities have resulted in increased spend on marketing and IT in particular. The cost income ratio fell to 60.3% from 65.7%. Impaired loans as a percentage of total loans have continued to improve with the ratio at 4.9% at 31 December 2006 compared with 6.8% at 31 December 2005, reflecting strong asset quality as the loan book increased. The credit provision charge as a percentage of average loans was 0.23%, compared with 0.40% in 2005. 25 Divisional commentary Group income statement Net interest income Other income/(loss) Total operating income Personnel expenses General and administrative expenses Depreciation/amortisation Total operating expenses Operating loss before provisions Provisions for impairment of loans and receivables Provisions for liabilities and commitments Total provisions Year 2006 € m 99 (27) 72 117 65 21 203 (131) - (10) (10) (121) 141 358 96 474 Year 2005 € m 60 (36) 24 89 42 10 141 (117) 1 5 6 (123) 148 - 45 70 Operating loss Associated undertaking Profit on disposal of property Construction contract income Profit before taxation Group includes interest income earned on capital not allocated to divisions, the funding cost of certain acquisitions, hedging in relation to the translation of foreign locations’ profit, unallocated costs of central services, the contribution from AIB’s share of approximately 24.0% in M&T Bank Corporation (“M&T”) and profit on disposal of property. Group reported profit before taxation of € 474 million for the year to December 2006 compared with a profit of € 70 million in 2005. The increase includes profit on disposal of property and construction contract income (total € 454 million - see below for detail). Net interest income increased due to higher capital income resulting from higher capital balances (strong retained earnings and the return on the funds generated from the disposal of property and the sale of businesses). Other income/(loss) includes hedging profits/(losses) in relation to foreign currency translation hedging and interest rate hedge volatility (hedging 26 reflects the conversion of M&T’s contribution from US GAAP to IFRS. The bank’s application of IFRS to M&T’s US GAAP numbers gave a lower result due to the movement of previously unallocated credit provisions to specific provisions in M&T’s books (which are now classified as specific provisions under IFRS and reduce the M&T profit reported in AIB’s books by € 15 million). Profit on disposal of property includes profit on the disposal of the existing Bankcentre building (€ 256 million before tax), profit on the sale of 11 branches in the Republic of Ireland (€ 73 million before tax) and profit on disposal of Donnybrook House (€ 29 million before tax). Construction contract income of € 96 million reflects the profit earned from the new development at Bankcentre, based on the stage of completion. ineffectiveness and derivative volatility). Total operating expenses were higher due to increased compliance related spend, mainly Sarbanes Oxley and Basel II and investment in systems and infrastructure to sustain the long-term development of the business in line with our single enterprise agenda. Performance related costs were higher in line with strong profit growth. M&T reported its annual results on 11 January 2007, showing net income up 7% to US$ 839 million. US GAAP-basis diluted earnings per share was up 10% to US$ 7.37 from US$ 6.73 in the year to December 2005. Diluted net operating earnings per share, which excludes the amortisation of core deposit and other intangible assets and merger-related expenses, was US$ 7.73 in 2006, up 10% from US$ 7.03 in 2005. AIB’s share of M&T after-tax profit in 2006 amounted to € 141 million. On a local currency basis M&T’s contribution of US$ 177 million was down 4% relative to the year to December 2005 contribution of US$ 185 million. This decrease Financial review CAPITAL MANAGEMENT It is the Group’s policy to maintain a strong capital base and to utilise it efficiently in its development as a diversified international banking group. As part of the Group’s capital management activities, the Group manages its mix of capital by currency in order to minimise the impact of exchange rate fluctuations on the Group’s key capital ratios. The table opposite shows AIB Group’s capital resources at 31 December 2006 and 31 December 2005. Capital resources increased by € 2.5 billion during the year ended 31 December 2006. The increase arose as a result of issues of perpetual preferred securities of € 1 billion. In addition, shareholders’ equity increased arising from net retentions and pension scheme actuarial gains offset by exchange rate movements. The sterling and Polish zloty strengthened by 2% and 1% respectively relative to the euro, while the US dollar weakened by 10% relative to the euro, resulting in a net negative foreign currency translation adjustment of € 152 million. Shareholders’ equity benefited from net retentions of € 1,560 million and the re-issue of shares for staff incentive schemes of € 87 million.The actuarial gains in the Group’s retirement benefit schemes, which the Group has recognised directly in shareholders’ equity under IAS 19 – Employee benefits, amounted to € 200 million. Capital raising during the year raised € 1 billion in capital notes reflecting the issue of Stg£ 350 million and € 500 million in perpetual preferred securities. 31 December 2006 € m 31 December 2005 € m Shareholders’ equity* Equity and non-equity minority interests Preference shares Perpetual preferred securties Undated capital notes Dated capital notes 8,605 1,307 189 1,016 871 2,668 7,169 1,248 210 - 868 2,678 Total capital resources *Includes other equity interests Capital ratios In carrying out the Group’s overall capital resources policy, a guiding factor is the supervisory requirements of the Financial Regulator, which applies a capital/risk assets ratio framework in measuring capital adequacy.This framework analyses a bank’s capital into three Tiers.Tier 1 capital, comprises mainly shareholders’ funds, minority equity interests in subsidiaries and preference shares. It is the highest Tier and can be used to meet trading and banking activity requirements.Tier 2 includes perpetual, medium-term and long-term subordinated debt, certain provisions for impairment and fixed asset revaluation reserves. Tier 2 capital can be used to support both trading and banking activities. Tier 3 capital comprises short-term subordinated debt with a minimum original maturity of two years.The use of Tier 3 capital is restricted to trading activities only and it is not eligible to support counterparty or settlement risk.The aggregate of Tiers 2 and 3 capital included in the risk asset ratio calculation may not exceed Tier 1 capital. AIB does not currently use Tier 3 capital in its capital calculation.The capital adequacy framework also applies risk weightings to balance sheet 14,656 12,173 and off-balance sheet exposures, reflecting the credit and other risks associated with broad categories of transactions and counterparties, to arrive at a figure for risk weighted assets. An internationally agreed minimum total capital (to risk weighted assets) ratio of 8% and a minimum Tier 1 capital (to risk weighted assets) ratio of 4% are the base standards from which the Financial Regulator sets individual capital ratios for credit institutions under its jurisdiction. The EU Capital Adequacy Directive (CAD) distinguishes the risks associated with a bank’s trading book from those in its banking book.Trading book risks are defined as those risks undertaken in order to benefit in the short-term from movements in market prices such as interest rates, foreign exchange rates and equity prices.The remaining risks, relating to the normal retail and wholesale banking activities, are regarded as banking book risks. The Capital Requirements Directive (CRD) amends the existing CAD for the prudential regulation of credit institutions and investment firms across the EU. It is a major piece of legislation that introduces a modern prudential framework, relating capital levels 27 Financial review more closely to risks. The CRD implements in the EU the revised Basel framework which is based on three “Pillars”:- Pillar 1: minimum capital requirements for credit, market and operational risks; Pillar 2: supervisory review - establishing a constructive dialogue between a firm and the regulator on the risks, the risk management and capital requirements of the firm; and Pillar 3: market discipline - robust requirements on public disclosure intended to give the market a stronger role in ensuring that firms hold an appropriate level of capital. A project is in place across the Group to prepare for the implementation of the CRD. The table opposite shows the components and calculation of the Group’s Tier 1 and total capital ratios at 31 December 2006 and 31 December 2005. The Group was strongly capitalised at 31 December 2006 with the Tier 1 ratio at 8.2% and the total capital ratio at 11.1%. Risk weighted assets increased by € 21.4 billion reflecting strong loan growth across the Group. Tier 1 capital increased by € 2.8 billion to € 10.1 billion. This increase was primarily as a result of issues of Tier 1 capital of € 1 billion, strong retentions of € 1.6 billion and the positive impact of property and business disposals of € 0.3 billion. Tier 2 capital reduced by a net € 0.25 billion, primarily as a result of the reduction in fixed asset revaluation reserves reflecting the disposal of Ark Life and the disposal of property. Supervisory deductions 28 Capital base Tier 1 Paid up ordinary share capital Eligible reserves Equity and non equity minority interests in subsidiaries Non-cumulative preference shares Non-cumulative perpetual preferred securities Reserve capital instruments Less: supervisory deductions Total tier 1 capital Tier 2 Fixed asset revaluation reserves IBNR provisions Subordinated perpetual loan capital Subordinated term loan capital Total tier 2 capital Gross capital Supervisory deductions Total capital Risk weighted assets Banking book: On balance sheet Off-balance sheet Trading book: Market risks Counterparty and settlement risks 31 December 2006 € m 31 December 2005 € m 294 7,975 1,307 189 1,016 497 (1,162) 10,116 110 189 871 2,668 3,838 13,954 (310) 13,644 101,285 13,033 114,318 8,172 544 8,716 294 6,161 1,248 210 - 497 (1,135) 7,275 381 162 868 2,678 4,089 11,364 (487) 10,877 79,520 14,682 94,202 6,891 563 7,454 Total risk weighted assets 123,034 101,656 Capital ratios Tier 1 Total decreased by € 177 million, reflecting the disposal of Ark Life. RISK MANAGEMENT Risk-taking is inherent in providing financial services and AIB assumes a variety of risks in its ordinary business activities.These include credit risk, market risk, liquidity risk and operational risk. The role of Risk Management is to 8.2% 11.1% 7.2% 10.7% ensure that AIB continues to take risk in a controlled way in order to enhance shareholder value. AIB’s risk management policies are designed to identify and analyse these risks, to set appropriate risk limits and to monitor these risks and limits continually. AIB continues to modify and enhance its risk management practices to reflect changes in markets, products and evolving best practice. Primary responsibility for risk management lies with line management.Within AIB, line management is supported by a risk management function that sets standards, policies, limits and measurement methods and provides independent oversight through a Group Chief Risk Officer (“Group CRO”) with a direct reporting line to the Group Chief Executive (“CEO”) and the Audit Committee of the Board. The Board of Directors formally approves the overall strategy and the direction of the business on an annual basis. It regularly monitors the Group’s financial performance, reviews risk management activities and controls and has responsibility for approving the Group’s risk appetite.The Group Executive Committee (“GEC”), comprising the Group CEO, Group Finance Director, Group Chief Risk Officer, Group Director of Operations, Group Director of HR and the four Divisional Managing Directors, manages the strategic business risks of the Group. It sets the business strategy within which the risk management function operates. The Group Risk Management Committee (“RMC”) is the principal executive forum for the review and discussion of enterprise-wide risk governance. In addition, it reviews the adequacy of internal controls and has governance responsibility for the aggregate risk exposures of the Group.The Committee is chaired by the Group CRO (the Group CEO is the co-chair) and includes all members of the Group Executive Committee as well as the Group Internal Auditor and the Group Head of Regulatory Compliance and Business Ethics. It is supported by the Group Credit Committee (“GCC”), the Group Operational Risk Management Committee (“ORMCo”) and the Group Market Risk Committee (“MRC”).The Group Asset and Liability Management Committee (“Group ALCO”) is chaired by the Group Finance Director and has responsibility for the Group’s capital, funding, liquidity and structural balance sheet activities. It is supported in this role by a Group Asset and Liability Management (“ALM”) function. In addition each of the four operating divisions has a Credit Committee, an ALCO and an ORMCo (in AIB Bank UK Division, the Division ORMCo is subsumed in the Divisional Operations Committee). The Group CRO has responsibility for the Enterprise Risk Management (“ERM”) framework, the key elements of which are: – Risk Governance and Policies – Risk Philosophy/Principles/ Culture – Risk Management Organisation – Risk Management Process, which includes risk assessment, controls, monitoring and reporting – Risk Appetite and Risk Strategy. Each of the four operating divisions and the Operations and Technology group (“O&T”) have dedicated risk management functions, with Divisional CROs reporting directly to the Group CRO. In addition, the Group Chief Credit Officer (“CCO”), the Group Head of Operational Risk Management and the Group Head of Market Risk Management have functional responsibility for these risks at the centre and are members of the Group CRO’s Management Team. Each Division has dedicated credit risk management and operational risk management functions.The Capital Markets Division also has a dedicated Market Risk Management function. The Divisional CCO chairs the credit committee in each Division. Two other functions (in addition to Group Finance) play very important roles in overseeing the risk control environment. These are Regulatory Compliance and Business Ethics (“RCBE”) and Group Internal Audit (“GIA”). Regulatory Compliance and Business Ethics (“RCBE”) is an enterprise-wide function which identifies compliance obligations in each of the operating markets and provides advice and guidance to management and staff on addressing compliance risks. Primary responsibility for compliance lies with line management. Compliance risks are associated with failures to comply with laws, regulations, rules, self- regulatory standards and the codes of conduct applicable to the Group’s business activities. Such failures can give rise to legal or regulatory sanctions, material financial loss, or a loss of reputation to the bank. The regulatory compliance function also promotes the embedding of an ethical framework within our businesses to ensure that we operate with honesty, fairness and integrity in all our dealings with customers. 29 Financial review Regulatory compliance supports management in the development of appropriate policies and procedures that will ensure compliance with all our conduct of business obligations. Compliance teams are located in each Division to work closely with management to identify and control compliance risks.The regulatory compliance function assesses and monitors the compliance risks faced by our businesses, and independently reports to the Audit Committee on the compliance framework operating across the Group, and on line management’s attention to compliance issues. Group Internal Audit (“GIA”) provides reasonable assurance to the Audit Committee of the Board on the adequacy, effectiveness and sustainability of the governance, risk management and control processes throughout the Group. A secondary objective is to influence the strengthening of governance, risk management and control processes through the sharing of best practices. In undertaking its responsibilities, Group Internal Audit adopts a risk-based approach, which translates into a comprehensive programme of work that provides an independent assessment of key governance, risk management and control processes. Included in its work are reviews of the self-assessments of operational risks and controls undertaken by the businesses.There is also an ongoing review of risk identification standards and risk management methodologies which includes testing of the risk mitigators adopted by management. chaired by the Group Chief Credit Officer. Credit risk Credit risk is the risk that a customer or counterparty will be unable or unwilling to meet a commitment that it has entered into and that the pledged collateral does not cover AIB’s claims.The credit risks in AIB arise primarily from lending activities to customers but also from guarantees, derivatives and securities. CCrreeddiitt mmaannaaggeemmeenntt aanndd ccoonnttrrooll Credit risk is managed and controlled throughout AIB on the basis of established credit processes and within a framework of credit policy and delegated authorities based on skill and experience. Credit grading, scoring and monitoring systems accommodate the early identification and management of deterioration in loan quality.The credit management process is underpinned by an independent system of credit review. The Board determines the credit authority for the Group Credit Committee (“GCC”) and approves the Group’s key credit policies. It also approves divisional credit authorities and reviews credit performance on a regular basis.The GCC considers and approves, recognising the parameters of the Group Large Exposure Policy, credit exposures which are in excess of divisional credit authorities.The GCC comprises senior divisional and Group-based management and is The Group CCO sets Groupwide standards for best practice including credit grading and scoring methodologies and exposure measurement. Divisional management approves divisional credit policy with the involvement and agreement of the risk management function. Material divisional credit policies are referred to the Group RMC. CCrreeddiitt rriisskk oonn ddeerriivvaattiivveess The credit risk on derivative contracts is the risk that AIB’s counterparty in the contract defaults prior to maturity at a time when AIB has a claim on the counterparty under the contract. AIB would then have to replace the contract at the current market rate, which may result in a loss. Derivatives are used by AIB to meet customer needs, to reduce interest rate risk, currency risk and in some cases credit risk, as well as for proprietary trading purposes. Derivatives affect both credit and market risk exposures.The credit exposure is treated in the same way as other types of credit exposure and is included in customer limits. The total credit exposure consists partly of current exposure and partly of potential future exposure.The potential future exposure is an estimation, which reflects possible changes in market values during the remaining lifetime of the individual contract. AIB uses a simulation tool to estimate possible changes in future market values and computes the credit exposure to a high level of statistical significance. 30 CCoouunnttrryy rriisskk Country risk is the risk that circumstances arise in which customers and other counterparties within a given country may be unable or precluded from fulfilling their obligations to AIB due to deterioration in economic or political circumstances. Country risk is managed by setting appropriate maximum risk limits to reflect each country’s overall credit worthiness. Independent credit information from international sources, supported by visits to relevant countries, is used to determine the appropriate risk limits. Risks and limits are monitored on an ongoing basis. SSeettttlleemmeenntt rriisskk Settlement risk is the risk of loss arising in situations where AIB has given irrevocable instructions for a transfer of a principal amount or security in exchange for receiving a payment or security from a counterparty which defaults before the transaction is completed. The settlement risk on individual counterparties is measured as the full value of the transactions on the day of settlement. It is controlled through settlement risk limits. Each counterparty is assessed in the credit process and clearing agents, correspondent banks and custodians are selected with a view to minimising settlement risk. RRaattiinngg mmeetthhooddoollooggiieess Internal rating models, which comprise both grading and scoring systems, lie at the heart of credit management within AIB. They are used to differentiate between credits on the basis of estimated probability of default. In conjunction with the preparations for Basel II, a significant review and upgrade of all material models is being carried out with a view to ensuring appropriate quality and standards are maintained, and that processes are in place to continuously review and validate these models. In our consumer businesses, where there are large numbers of customers, credit decisions are largely informed by statistically based scoring systems. Both application scoring for new customers and behavioural scoring for existing customers are used to measure risk and facilitate the management of these portfolios. In our commercial and corporate businesses, the grading systems utilise a combination of objective information (primarily financial data) and subjective assessments of non-financial risk factors.The combination of expert lender judgement and statistical methodologies varies according to the size and nature of the portfolio and default experience. The ratings influence the management of individual loans. Special attention is paid to lower quality graded loans and, when appropriate, loans are transferred to specialist units to help avoid default and, where in default, to minimise loss. PPrroovviissiioonniinngg ffoorr iimmppaaiirrmmeenntt AIB provides for impairment in a prompt and conservative way across the credit portfolios.The rating models provide a systematic discipline in triggering the need for provisioning on a timely basis. In January 2005, AIB introduced amended impairment provisioning methodologies in compliance with the International Financial Reporting Standards (IFRS). In applying these methodologies, AIB has identified two types of provisions, a) Specific and b) Incurred But Not Reported (IBNR) – i.e. collective provisions for earning loans. Specific provisions arise when the recovery of a specific loan or group of loans is significantly in doubt.The amount of the specific provision will reflect the financial position of the borrower and the net realisable value of any security held for the loan or group of loans. In practice, the specific provision is the difference between the present value of expected future cash flows for the impaired loan(s) and the carrying/book value. IBNR provisions are maintained to cover loans which are impaired at the balance sheet date, and while not specifically identified, are known from experience to be present in any portfolio of loans. IBNR impairment provisions can only be raised for incurred losses and are not allowed for losses that are expected to happen as a result of likely future events. IBNR provisions are determined by reference to loss experience in our portfolios and to the credit environment at balance sheet date. Whilst provisioning is an ongoing process, all AIB divisions formally review provision adequacy on a quarterly basis and determine the overall provision 31 Financial review need.These provisions are, in turn, reviewed and approved on a quarterly basis with ultimate Group levels being approved by the Group Audit Committee. Credit performance measurement framework AIB continues to refine its methodology for measuring the risk adjusted profitability of its credit business. Economic Value Added (“EVA”) is one of the primary measures of performance. EVA represents the value added having deducted all costs, including expected loss and a charge for the economic capital required to support the facility. The most important inputs into the determination of the expected loss and the economic capital are the Probability of Default (“PD”), the Loss Given Default (“LGD”) and the Exposure At Default (“EAD”).The grades produced by the rating models are translated into a PD, which is a key parameter when measuring risk. LGD is measured taking into account, amongst other things, the security held by AIB. EAD for many products is equal to the outstanding exposure but for some products, such as credit lines and derivative contracts, the EAD may be higher than the outstanding exposure. The methodology used in determining economic capital is in line with best practice. Further information on credit risk Further information on credit risk can be found within this report in the following notes; – Amounts written off financial investments available for sale (Note 11) – Loans and receivables to banks (Note 25) – Loans and receivables to customers (Note 26) – Provisions for impairment of loans and receivables (Note 27) – Financial investments available for sale (Note 30) – Provisions for liabilities and commitments (Note 44) – Memorandum items: contingent liabilities and commitments (Note 50) Market risk Market risk is the exposure to loss arising from adverse movements in interest rates, foreign exchange rates and equity prices. It arises in trading activities as well as in the natural course of transacting business, for example, in the provision of fixed rate loans, foreign exchange or interest rate risk management products, or equity linked tracker bonds to customers. Risk management and control The principal aims of AIB’s market risk management activities are to limit the adverse impact of interest rate, exchange rate and equity price movements on profitability and shareholder value and to enhance earnings within defined risk limits. Market risk management for AIB is, in the main, centralised in Capital Markets Division. Interest rate, foreign exchange rate and equity risks incurred in retail and corporate banking activities are transferred into Global Treasury where they are managed. In addition, Goodbody Stockbrokers manage market risk that is inherent in its activity in the equity markets. The basic principle is that these risks in non-trading areas are eliminated by matching the market risk characteristics of assets and liabilities. Global Treasury manages the market risk inherent in these transactions in conjunction with its own discretionary risk positions in accordance with predefined market risk limits. In addition, Global Treasury has responsibility for the funding and liquidity management of the Group Balance Sheet and the management of structural market risk positions on behalf of the Group ALCO. Market risks are managed by setting limits on the amount of the Group’s capital that can be put at risk.These limits are based on risk measurement methodologies described below.The Board delegates authority to the Group CRO to allocate these limits on its behalf.The limits for Global Treasury are set in accordance with its business strategy and are reviewed frequently.The Managing Director of Global Treasury allocates these limits to the various dealing desks who supplement these with more detailed limits and other risk reducing features such as stop-loss rules.Within Global Treasury, there is a dedicated market risk management team which works closely with Group Market Risk Management and is charged with the responsibility to ensure that the risk measurement methodologies used are appropriate for the risks being taken and that appropriate monitoring and control procedures are in place.The Market Risk Committee (“MRC”) reviews market risk activities and market risk strategy. It approves 32 policies and promotes best practice for measurement, monitoring and control of market risk. MMeeaassuurreemmeenntt mmeetthhooddss There is no single risk measure that captures all aspects of market risk. AIB uses several risk measures including Value at Risk (“VaR”) models, sensitivity measures and stress testing. VaR The aim of VaR is to estimate the probable maximum loss in fair value that could arise in one month from a “worst case” movement in market rates.This is computed using statistical analysis of market rate movements which assumes a normal distribution and is calculated to a 99% confidence level.This means that in one month in a hundred the actual loss from the market risk activity could be greater than the simulated loss. VaR figures are quoted using one- day and one-month holding periods. AIB’s market risk exposure is spread across a range of instruments, currencies and maturities.The VaR for a portfolio of market risk positions will not be the sum of the VaRs for each financial instrument included in the portfolio.The VaR for a portfolio is lower because it is unlikely that the “worst case” scenario occurs in all instruments, currencies and maturities simultaneously. Sensitivity measures The limitations of VaR techniques are well known to banks.They stem from the need to make assumptions about the spread of The following table illustrates the VaR figures for interest rate risk for the years ended 31 December 2006 and 2005. Interest rate risk 1 month holding period: Average High Low 31 December 1 day holding period: Average High Low 31 December Trading 2005 € m Non-trading 2005 € m 2006 € m 8.6 14.5 3.1 9.1 1.8 3.1 0.7 1.9 40.6 48.9 30.2 46.9 8.7 10.4 6.4 10.0 28.5 37.3 18.6 32.5 6.1 8.0 4.0 6.9 2006 € m 10.7 15.6 7.6 9.4 2.3 3.3 1.6 2.0 likely future price and rate movements. AIB supplements its VaR methodology with sensitivity measures. Dealers in Global Treasury know how much the value of their positions could change for a given change in rates and/or prices.This sensitivity is monitored at desk and management level and reported on by the Global Treasury risk management unit.These measures can also be used to decide on hedging activities. Decisions can be taken to close out positions when the level of sensitivity combined with the likelihood of a rate or price change exposes AIB to too high a potential loss in value. Stress testing AIB’s VaR and sensitivity measures provide estimates of probable maximum loss in normal market conditions. Stress tests are used to supplement these measures by estimating possible losses that may occur under extreme market conditions. IInntteerreesstt rraattee rriisskk Global Treasury manages the Group’s exposure to interest rate risk.The risk is that changes in interest rates will have adverse effects on earnings and on the value of AIB’s assets and liabilities.This risk is managed by setting limits on the earnings at risk and the value at risk (“VaR”) from the open interest rate risk positions of Global Treasury. A stop-loss limit framework is also used to manage the risk of loss from positions that are subject to mark-to-market accounting. In managing interest rate risk, a distinction is made between trading and non-trading activities.Trading activities are recorded in the trading book. Interest rate risk associated with AIB’s retail, corporate and commercial activities is transferred to Global Treasury and managed through the non-trading book.The reported interest rate VaR figures represent the average, high, low and year end probable maximum loss in respect of both trading and 33 Financial review non-trading book positions held in Global Treasury. Trading book The interest rate trading book includes all securities and interest rate derivatives that are held for trading purposes in Global Treasury. These are revalued daily at market prices (marked to market) and any changes in value are immediately recognised in income. During 2006, trading book interest rate risk was predominantly concentrated in euro, sterling and the US dollar. Non-trading book AIB’s non-trading book consists of its retail and corporate deposit books, Global Treasury’s cash books and the Group’s investment portfolios and derivatives hedging interest rate risk within these portfolios. AIB’s retail businesses have a substantial level of free current accounts, equity and other interest-free or fixed rate liabilities and assets. Unless carefully managed, the net income from these funds will fluctuate directly with short-term interest rates. AIB manages this volatility by maintaining a portfolio of instruments with interest rates fixed for several years.The size and maturity of this portfolio is determined by characteristics of the interest-free or fixed rate liabilities or assets and, in the case of equity, an assumed average maturity. In designing this strategy, care is taken to ensure that the management of the portfolio is not inflexible as market conditions and customer requirements can bring about a need to alter the portfolio. Group ALCO sets the framework and reviews the management of these activities. AIB’s net interest rate sensitivity as at 31 December 2006 is illustrated in note 52. Foreign exchange rate risk AIB is exposed to foreign exchange rate risk through its international operations and through Global Treasury activities in foreign currencies. Foreign exchange rate risk - structural Structural foreign exchange rate risk arises from the Group’s non-trading net asset position in foreign currencies. Structural risk exposure arises almost entirely from the Group’s net investments in its sterling, US dollar and Polish zloty-based subsidiaries and associates.The Group prepares its consolidated financial statements in euro. Accordingly, the consolidated balance sheet is affected by movements in the exchange rates between these currencies and the euro. Because of the Group’s diversified international operations, the currency profile of its capital may not necessarily match that of its assets and risk weighted assets. The Group does not maintain material non-trading open currency positions other than the structural risk exposure discussed here. At 31 December 2006 and 2005, the Group’s structural foreign exchange position, against the euro, was as follows: US dollar Sterling Polish zloty 2006 € m 1,516 1,257 511 3,284 2005 € m 1,627 1,029 392 3,048 This position indicates that a 10% increase in the value of the euro against these currencies at 31 December 2006 would result in a charge to be taken to reserves of € 328 million. The Group also has a structural exposure to foreign exchange risk arising from the Group’s share of the earnings from its sterling, US dollar and Polish zloty-based subsidiaries.The Group seeks to reduce this exposure through a programme of sales of currency through foreign exchange forwards and options.The Group’s policy limits the extent of forward sales to the extent of the budgeted foreign currency income and does not allow hedging of profits beyond the current year. At 31 December 2006 and 2005, there were no outstanding contracts to sell future currency profits arising in these subsidiaries. Group ALCO sets the framework and reviews the management of these activities. Foreign exchange rate risk - trading Global Treasury manages AIB’s exposure to foreign exchange rate risk arising from unhedged customer transactions and discretionary trading.The risk is that adverse movements in foreign exchange rates will result in losses. This risk is managed by setting limits on the earnings at risk and the value at risk (“VaR”) from the open foreign exchange rate positions of the Group. A stop-loss limit framework is also used to manage the risk of loss from foreign exchange rate risk trading positions.The table sets out the VaR figures for trading foreign 34 Trading 2005 € m 2006 € m Foreign exchange rate risk-trading 1 month holding period: Average High Low 31 December 1.4 2.5 0.7 0.9 1 day holding period: 0.3 0.5 0.1 0.2 Average High Low 31 December 1.2 3.0 0.5 0.9 0.2 0.6 0.1 0.2 exchange rate risk for the years ended 31 December 2006 and 2005. Equity risk Global Treasury manages the equity risk arising on its convertible bond portfolio and from stock market linked investment products (tracker bonds) sold to customers. Goodbody Stockbrokers manage the equity risk in its Principal Trading Account.The risk is that adverse movements in share, share index or equity option prices will result in losses for the Group.This risk is managed by setting limits on the earnings at risk and the value at risk (“VaR”) from the open equity positions of the Group. A stop-loss limit framework is also used to manage the risk of loss from equity risk trading positions.The table sets out the VaR figures for equity risk for the years ended 31 December 2006 and 2005. Off-balance sheet financial instruments and derivatives AIB uses off-balance sheet financial instruments to service customer requirements, to manage the Group’s market risk exposures and for trading purposes. Trading 2005 € m 2006 € m Equity risk 1 month holding period: Average High Low 31 December 14.0 20.0 13.0 14.2 1 day holding period: 3.0 4.3 1.7 3.0 Average High Low 31 December 13.6 18.5 11.1 13.6 2.9 4.0 1.8 2.9 Credit commitments Contingent liabilities and commitments to extend credit are outlined in note 50.The Group’s maximum exposure to credit loss in the event of non-performance by the other party, where all counterclaims, collateral or security prove valueless, is represented by the contractual amounts of these contracts. Derivative financial instruments Derivative financial instruments are contractual agreements between parties whose value reflects movements in an underlying interest rate, foreign exchange rate, equity price or index.The table on page 36 shows the notional principal amount and gross replacement cost for trading and non-trading interest rate, exchange rate and equity contracts at 31 December 2006 and 2005.While notional principal amounts are used to express the volume of these transactions, the amounts subject to credit risk are much lower.This is because most derivatives involve payments based on the net differences between the rates expressed in the contracts and other market rates. The Group is exposed to interest rate risk when assets and liabilities mature or reprice at different times or in differing amounts. Interest rate derivatives are used to manage interest rate risk in a cost-efficient manner. Similarly, foreign exchange and equity derivatives are used to manage the Group’s exposure to foreign exchange and equity risk, as required. The values of derivative instruments can rise and fall as market rates change.Where they are used to hedge balance sheet assets or liabilities, the changes in value are generally offset by the value changes in the hedged items. The Group uses derivative transactions to hedge interest rate risk and the accounting treatment of these transactions is set out in the Accounting policies section (see page 56). The Group uses both fair value hedges and cash flow hedges to achieve its hedge objective. Derivatives are classified as fair value hedges where the hedging objective is to eliminate the risk of changes in fair value arising from interest rate fluctuations of fixed rate assets or liabilities. Derivatives are classified as cash flow hedges where the hedging objective is to eliminate the risk of interest rate fluctuations over the hedging period for variable rate loan portfolios. The following is a brief description of the derivative instruments that account for the major part of the Group’s derivative activities: Interest rate swaps are agreements between two parties to exchange fixed and floating rate interest by means of periodic payments based upon notional 35 Financial review Interest rate contracts Trading Non-trading Exchange rate contracts Trading Non-trading Equity contracts Trading Non-trading Credit derivative contracts Trading Non-trading Notional principal amount € m 145,600 71,835 217,435 20,226 - 20,226 6,485 - 6,485 570 - 570 2006 Gross Notional principal amount € m replacement cost € m 2005 Gross replacement cost € m 689 476 126,885 51,441 685 461 1,165 178,326 1,146 107 - 107 438 - 438 - - - 19,799 - 19,799 4,386 - 4,386 - - - 238 - 238 253 - 253 - - - principal amounts and interest rates defined in the contract. The Group uses interest rate swaps to manage the impact on income and shareholder value of interest rate changes on variable and fixed rate assets. In addition, swaps are used to hedge the Group’s funding costs. period are higher than the agreed rate, the seller pays the buyer the difference between the contract rate and the rate prevailing. If interest rates are lower, the buyer pays the seller.These contracts are used by customers to fix the rates for future short-term borrowing or deposits. Currency swaps are interest rate Financial futures are exchange swaps where one or both of the legs of the swap is payable in a different currency.They are used by both customers and Global Treasury to convert fixed rate assets or liabilities to floating rate or vice versa, or to change the maturity or currency profile of underlying assets and liabilities, as required. Forward rate agreements are individually negotiated contracts under which an interest rate is agreed for a notional principal amount covering a specified period in the future. At the settlement date, if interest rates for the future traded contracts to buy or sell a standardised amount of the underlying item at an agreed price on a set date. Interest rate futures contracts are available in all of the major currencies. Foreign currency and equity index futures are also available. Financial futures are used to hedge the Group’s exposures arising from the sale of forward rate agreements or guaranteed equity products.They are also used to manage the interest rate risks arising in the Group’s debt securities portfolio. Options are contracts that give the purchaser the right, but not the obligation, to buy or sell an underlying asset e.g. bond, foreign currency, or equity index, at a certain price on or before an agreed date.These provide more flexible means of managing exposure to changes in interest rates, exchange rates and equity index levels. Foreign exchange rate options are used by the Group to hedge income and expenses arising from non-euro denominated assets and liabilities. Foreign exchange rate options are also used to hedge exposures arising from customer transactions. Interest rate caps/floors are series of options that give the buyer the ability to fix the maximum or minimum rate of interest. A combination of an interest rate cap and floor is known as an interest rate collar. Forward foreign exchange contracts are agreements to buy or sell a specified quantity of foreign currency, usually on a specified date, at an agreed exchange rate. These contracts are used by customers to fix the exchange rates for future foreign exchange transactions.They are also used by the Group to hedge non-euro income and expenses. Credit derivatives are contracts, the value of which are determined by the credit worthiness of some underlying borrower or borrowers. They are used in the industry to increase (take a position in) or decrease (hedge) an exposure to credit risk. AIB takes positions in credit risk through credit derivatives, primarily Credit Default Swaps (“CDS”). It has little activity in purchasing derivatives to hedge credit risk. 36 Strong internal control and quality management, consisting of a risk management framework, leadership and skilled personnel, is the key to successful operational risk management. Each business area is primarily responsible for managing its own operational risks. Risk management develops and maintains the framework for identifying, monitoring and controlling operational risks and supports the business in implementing the framework and raising awareness of operational risks. An element of AIB’s operational risk management framework is ongoing monitoring through self-assessment of risks, control deficiencies and weaknesses, the tracking of incidents and loss events and the use of a structured “lessons learned” process to ensure that, once identified, control deficiencies are communicated and remedied across the Group. The role of Group ORMCo is to review and co-ordinate operational risk management activities across the Group through setting policy, monitoring compliance and promoting best practice disciplines. Any activity in this area is approved through the normal credit approval process. Liquidity risk The objective of liquidity management is to ensure that, at all times, the Group holds sufficient funds to meet its contracted and contingent commitments to customers and counterparties, at an economic price.The Group achieves this through the maintenance of a stock of high quality liquid assets, active management of the maturity profile of the Group’s liabilities to avoid concentrations of repayments and active involvement in the interbank market, supplemented by US dollar commercial paper and CD issuances together with a euro medium-term note and covered bond programs to diversify sources of funding.The Group’s stock of liquid assets is maintained at a level considered sufficient to meet the withdrawal of deposits or calls on commitments in both normal and abnormal trading conditions. In all cases, net outflows are monitored on a daily basis and the required minimum stock of liquid assets can be increased if these outflows exceed predetermined target levels. Global Treasury, through its wholesale treasury operations manages, on a global basis, the liquidity and funding requirements of the Group. Euro, sterling, US dollar and Polish zloty represent the most important currencies to AIB Group from a liquidity perspective.The Group has an established retail deposit base in Ireland, UK and Poland which together with wholesale market products, funds asset growth. Although a significant element of these retail deposits are contractually repayable on demand or at short notice, the Group’s substantial customer base and geographic spread generally ensures that these current and deposit accounts represent a stable and predictable source of funds.The retail deposit base in Ireland and the UK continues to grow strongly, though at a lower level than customer loan growth.The Group’s deposit levels in Poland also continue to increase and overall deposit balances exceed loan assets. The Group has sufficient liquidity to meet its current funding requirements and operates a funding strategy to meet future funding needs. The Group also operates a liquidity contingency plan for critical situations. Counterparty ratings of AIB are as follows: Moody’s long-term “Aa3” and short-term “P-1”; Fitch long-term “AA-” and “F1+” short-term; Standard and Poors long-term single “A+”and “A -1” short-term. Operational risk Within AIB, operational risk is defined as the exposure to loss from inadequate or failed internal processes, people and systems or from external events. It is the risk of loss, or damaged reputation, due to deficiencies or errors in the Group’s internal operations which may be attributable to employees, the organisation, control routines, processes or technology, or due to external events and relations. Operational risks are inherent in all activities within the organisation, in outsourced activities and in all interaction with external parties. 37 Report of the Directors for the year ended 31 December 2006 The Directors of Allied Irish Banks, p.l.c. (“the Company”) present their report and the audited accounts for the year ended 31 December 2006. A Statement of the Directors’ responsibilities in relation to the Accounts appears on page 146. Messrs. Padraic M. Fallon and John B. McGuckian will retire at the 2007 AGM and will not offer themselves for re-appointment. All other Directors will retire at the 2007 AGM and, being eligible, offer themselves for re- appointment. The names of the Directors appear on pages 6 and 7, together with a short biographical note on each Director. Directors’ and Secretary’s Interests in the Share Capital The interests of the Directors and Secretary in the share capital of the Company are shown in Note 54. Substantial Interests in the Share Capital The following substantial interests in the Ordinary Share Capital had been notified to the Company at 5 March 2007: Bank of Ireland Asset Management Limited 5.30% (5.56% when Treasury Shares are excluded). None of the clients on whose behalf these shares are held had a beneficial interest in 3% or more of the Ordinary Share Capital. An analysis of shareholdings is shown on page 157. Results The Group profit attributable to the ordinary shareholders of the Company amounted to € 2,185m and was arrived at as shown in the Consolidated Income Statement on page 63. Dividend An interim dividend of EUR 25.3c per ordinary share, amounting to € 221m, was paid on 26 September 2006. It is recommended that a final dividend of EUR 46.5c per ordinary share, amounting to € 407m (see Note 63), be paid on 10 May 2007, making a total distribution of EUR 71.8c per ordinary share for the year. The profit attributable to the ordinary shareholders of the Company, which has been transferred to reserves, and the dividends paid during 2006, are dealt with as shown in the “Reconciliation of movements in shareholders’ equity” on page 69. Capital There were no allotments of new shares during the year. Details of treasury shares re-issued under the AIB Employee Share Schemes, and the Allfirst Financial Stock Option Plan, are given in Note 47. At the 2006 Annual General Meeting (“AGM”), shareholders granted authority for the Company, or any subsidiary, to make market purchases of up to 91.8 million ordinary shares of the Company, subject to the terms and conditions set out in the relevant resolution. As at 31 December 2006 some 42.8 million shares purchased in previous years under similar authority were held as Treasury Shares; information in this regard is given in Note 47. Accounting policies The principal accounting policies, together with the basis of preparation of the accounts, are set out on pages 47 to 62. Review of activities The Statement by the Chairman on pages 4 and 5 and the Review by the Group Chief Executive on pages 8 and 9 contain a review of the development of the business of the Group during the year, of recent events, and of likely future developments. Directors The following Board changes occurred with effect from the dates shown: - Mr. John O’Donnell was appointed an Executive Director on 11 January 2006; - Mr. Sean O’Driscoll was appointed a Non-Executive Director on 7 September 2006; - Mr. Bernard Somers was appointed a Non-Executive Director on 7 September 2006; - Mr. Donal Forde was appointed an Executive Director on 11 January 2007; - Ms. Anne Maher was appointed a Non-Executive Director on 11 January 2007; - Mr. Daniel O’Connor was appointed a Non-Executive Director on 11 January 2007; 38 Auditor The Auditor, KPMG, has signified their willingness to continue in office in accordance with Section 160(2) of the Companies Act, 1963. Dermot Gleeson Chairman Eugene Sheehy Group Chief Executive 5 March 2007 Corporate Governance The Directors’ Corporate Governance statement appears on pages 40 to 46. Books of Account The measures taken by the Directors to secure compliance with the Company’s obligation to keep proper books of account are the use of appropriate systems and procedures, including those set out in the Internal Control section of the Corporate Governance statement on pages 45 and 46, and the employment of competent persons. The books of account are kept at the Company’s Registered Office, Bankcentre, Ballsbridge, Dublin 4, Ireland; at the principal offices of the Company’s main subsidiary companies, as shown on pages 111/112 and 152/153; and at the Company’s other principal offices, as shown on those pages. Principal Risks and Uncertainties Information concerning the principal risks and uncertainties facing the Company and the Group, as required under the terms of the European Accounts Modernisation Directive (2003/51/EEC), is set out in the “Risk Management” section of the Financial Review. Branches outside the State The Company has established branches, within the meaning of EU Council Directive 89/666/EEC, in Australia, France, Germany, the United Kingdom and the United States of America. 39 Corporate Governance Corporate governance is concerned with how companies are managed and controlled. The Board is committed to the highest standards in that regard and it is Board policy to comply with the provisions of the Combined Code on Corporate Governance(1) (“the Code”). This statement explains how the Company has applied the Principles set out in the Code. The Board Role The Board is responsible for the leadership, direction and control of the Company and the Group and is accountable to shareholders for financial performance. There is a comprehensive range of matters specifically reserved for decision by the Board; at a high level this includes: - determining the Company’s - strategic objectives and policies; appointing the Chairman and the Group Chief Executive and addressing succession planning; - monitoring progress towards - achievement of the Company’s objectives and compliance with its policies; approving annual operating and capital budgets, major acquisitions and disposals, and risk management policies and limits; and - monitoring and reviewing financial performance, risk management activities and controls. The role of the Chairman, which is non-executive, is separate from the role of the Group Chief Executive, with clearly-defined responsibilities attaching to each; these are set out in writing and agreed by the Board. There is a procedure in place to enable the Directors to take independent professional advice, at the Company’s expense. The Company holds insurance cover to protect Directors and Officers against liability arising from legal actions brought against them in the course of their duties. Meetings The Chairman sets the agenda for each Board meeting. The Directors are provided in advance with relevant papers to enable them to consider the agenda items, and are encouraged to participate fully in the Board’s deliberations. Executive management attend Board meetings and make regular presentations. The Board held 11 scheduled meetings during 2006 and one additional out-of-course meeting. One of those meetings was held in Cork and one in Belfast. Attendance at Board meetings and meetings of Committees of the Board is reported on below. During a number of Board meetings, the Non-Executive Directors met in the absence of the Executive Directors, in accordance with good governance standards. In addition to their attendance at Board and Committee meetings, Non-Executive Directors attended Board meetings of overseas subsidiaries and held consultative meetings with the Chairman.The Directors also met the Company’s principal regulator. Membership It is the policy of the Board that a significant majority of the Directors should be Non- Executive. At 31 December 2006, there were 12 Non-Executive Directors and 3 Executive Directors. On 11 January 2007, a further 2 Non-Executive Directors and 1 Executive Director were appointed to the Board. Non- Executive Directors are appointed so as to maintain an appropriate balance on the Board, and to ensure a sufficiently wide and relevant mix of backgrounds, skills and experience to provide strong and effective leadership and control of the Group. The names of the Directors, and their biographical notes, appear on pages 6 and 7. All Directors are required to act in the best interests of the Company, and to bring independent judgement to bear in discharging their duties as Directors. Mr. Robert G Wilmers serves as a Director of the Company as the designee of M&T Bank Corporation, in which AIB holds a 24.2% interest at 31 December 2006. In these circumstances, Mr.Wilmers is not determined to be independent for the purposes of the Code.The Board has determined that all other Non-Executive Directors, in office at 31 December 2006, are independent in character and judgement and free from any business or other relationship with the Company or the Group that could affect their judgement. While two of the Non-Executive Directors have served in excess of nine years and are members of the (1)The Code, which was adopted in 2003 by the Irish Stock Exchange and the UK Listing Authority, was updated by the Financial Reporting Council in June 2006 following consultation exercises. AIB intends to comply with the updated Code in advance of its formal adoption by the Irish Stock Exchange and the UK Listing Authority. 40 Attendance at Board and Board Committee Meetings Name Board Audit Committee A Adrian Burke Kieran Crowley Colm Doherty Padraic M Fallon Dermot Gleeson Don Godson John B McGuckian John O’Donnell Sean O’Driscoll* Jim O’Leary Eugene Sheehy Bernard Somers* Michael J Sullivan Robert G Wilmers Jennifer Winter * appointed to the Board on 7 September 2006 11 11 11 11 11 11 11 11 4 11 11 4 11 11 11 B 11 11 11 6 11 11 11 11 4 11 11 3 10 7 11 A 11 11 - - - - - - - 11 - - 11 - - B 11 11 - - - - - - - 11 - - 10 - - Remuneration Committee Nomination & Corporate Corporate Social Responsibility Committee Governance Committee A B A B A B - - - - 5 5 5 - - 5 - - - - - - - - - 5 5 5 - - 4 - - - - - - - - 5 5 5 5 - - - 5 - 5 - - - - - 4 5 5 5 - - - 5 - 5 - - - 4 - 4 - - - - - - - - - - 4 - 4 - 1 - - - - - - - - - - 4 Column A indicates the number of scheduled meetings held during 2006, or, in the case of persons appointed to the Board during the year, the number of scheduled meetings held during the period when such persons were Directors; Column B indicates the number of meetings attended by each Director during 2006. Non-Executive Directors’ Pension Scheme (“the Scheme”), both have been determined by the Board to be independent. In that regard, the benefits accruing to the Directors concerned - Mr. Padraic M Fallon and Mr. John B McGuckian - from their historical membership of the Scheme are not considered to be significant to them, and their tenure as Directors has not affected their ability to bring independent judgement to bear in discharging their duties. Both Mr. Fallon and Mr. McGuckian retire from the Board at the Annual General Meeting (“AGM”) on 9 May 2007, after long and distinguished service.Two other directors, namely, Mr. Don Godson and Mr. Adrian Burke, have recently marginally exceeded nine years service; Mr. Godson is scheduled to retire from the board on 31 December 2007 and Mr. Burke at the 2008 AGM. Both Directors have been deemed by the Board to be independent. Chairman Mr. Dermot Gleeson has been Chairman of the Board since 2003. His responsibilities include the leadership of the Board, ensuring its effectiveness, setting its agenda, ensuring that the Directors receive adequate, accurate and timely information, facilitating the effective contribution of the Non- Executive Directors, ensuring the proper induction of new Directors, and reviewing the performance of individual Directors. Mr. Gleeson’s term as Chairman will expire in April 2011. Group Chief Executive The day-to-day management of the Group has been delegated to the Group Chief Executive, Mr. Eugene Sheehy, who took up that position on 1 July 2005. His responsibilities include the formulation of strategy and related plans, and, subject to Board approval, their execution. He is also responsible for ensuring an effective organisation structure, for the appointment, motivation and direction of the senior executive management, and for the operational management of all the Group’s businesses. Senior Independent Non- Executive Director Mr. John B McGuckian, the Senior Independent Non-Executive Director, is available to 41 Corporate Governance shareholders if they have concerns which contact through the normal channels of Chairman or Group Chief Executive have failed to resolve, or for which such contact is considered by the shareholder(s) concerned to be inappropriate. In anticipation of Mr. McGuckian’s impending retirement from the Board at the AGM on 9 May 2007, Mr. Michael J Sullivan has been appointed Senior Independent Non-Executive Director with effect from that date. Company Secretary The Directors have access to the advice and services of the Company Secretary, who is responsible for ensuring that Board procedures are followed and that applicable rules and regulations are complied with. Performance Evaluation Evaluations of the performances of the Board, individual Directors, and Board Committees were conducted during the year by Mr. John B McGuckian, the Senior Independent Non-Executive Director, who held discussions with each of the Directors who served for the full year.The results were presented to the Board. An evaluation of the performance of the Chairman was conducted in his absence by the Non-Executive Directors, under the Chairmanship of Mr. McGuckian, who had also consulted the Executive Directors. Terms of Appointment Non-Executive Directors are appointed for a three-year term, with the possibility of renewal for a further three years; the term may be further extended, in exceptional circumstances, on the recommendation of the Nomination and Corporate Governance Committee. Following appointment, Directors are required by the Articles of Association to retire at the next AGM, and may go before the shareholders for re-appointment. Subsequently, all Directors are required to submit themselves for re-appointment at intervals of not more than three years. In 2005 and 2006, the Directors decided, as a measure of strengthened corporate governance, to retire from office at the AGM, and offer themselves for re-appointment. It is intended that this practice will apply again at the 2007 AGM. Letters of appointment, as well as dealing with appointees’ responsibilities, stipulate that a specific time commitment is required from Directors; (a copy of the standard terms of the letter of appointment of Non-Executive Directors is available from the Company Secretary). Induction and Professional Development There is an induction process for new Directors. Its content varies as between Executive and Non- Executive Directors. In respect of the latter, the induction is designed to familiarise Non-Executive Directors with the Group and its operations, and comprises the provision of relevant briefing material, including details of the Company’s strategic and operational plans, and a programme of meetings with the Group Chief Executive, the Heads of Divisions and the senior management of businesses and support functions. During 2006, a number of internal seminars on the accounting policies and practices of the Group were conducted for the benefit of the Directors. Directors were also offered the opportunity to attend external courses and seminars to update their knowledge and were briefed on the Basel II regulatory capital framework. Board Committees The Board is assisted in the discharge of its duties by a number of Board Committees, whose purpose is to consider, in greater depth than would be practicable at Board meetings, matters for which the Board retains responsibility. The composition of such Committees is reviewed annually by the Board. A description of these Committees, each of which operates under terms of reference approved by the Board, and their membership, is given below. The minutes of all meetings of Board Committees are circulated to all Directors, for information, with their Board papers, and are formally noted by the Board. This provides an opportunity for Directors who are not members of those Committees to seek additional information or to comment on issues being addressed at Committee level. The terms of reference of the Audit Committee, the Corporate Social Responsibility Committee, the Nomination and Corporate Governance Committee, and the Remuneration Committee are available on AIB’s website, www.aibgroup.com. 42 Audit Committee Members:Mr.Adrian Burke, Chairman; Mr. Kieran Crowley; Mr. Jim O'Leary; and Mr. Michael J Sullivan. The role and responsibilities of the Audit Committee are set out in its terms of reference.Those responsibilities are discharged through its meetings and receipt of reports from Management, the Auditors, the Group Internal Auditor, the Chief Risk Officer, and the Group General Manager, Regulatory Compliance. The Audit Committee reviews the Group’s annual and interim accounts; the scope of the audit; the findings, conclusions and recommendations of the internal and external Auditors; reports on compliance; the nature and extent of non-audit services provided by the Auditors; and the effectiveness of internal controls. The Committee is responsible for making recommendations on the appointment, re-appointment and removal of the Auditors, ensuring the cost-effectiveness of the audit, and for confirming the independence of the Auditors, the Group Internal Auditor, and the Group General Manager, Regulatory Compliance, each of whom it meets separately at least once each year, in confidential session, in the absence of Management. Each of these parties has unrestricted access to the Chairman of the Audit Committee. A report is submitted annually to the Board, showing the issues considered by the Committee. There is a process in place by which the Audit Committee reviews and, if considered appropriate, approves, within parameters approved by the Board, any non-audit services undertaken by the Auditors, and the related fees. This ensures that the objectivity and independence of the Auditors is safeguarded. During the year, the Audit Committee reviewed its own functioning and terms of reference. This was facilitated by a report prepared by the Group Internal Auditor and work undertaken by external consultants. Arising from that review, a number of modifications were made to strengthen the Committee’s functioning and its terms of reference were updated. The Audit Committee met on eleven occasions during 2006. The following attend the Committee’s meetings, by invitation: the Auditors; the Group Finance Director; the Group Head of Accounting and Finance; the Group Chief Risk Officer; the Group General Manager, Regulatory Compliance; and the Group Internal Auditor. Corporate Social Responsibility Committee Members: Ms. Jennifer Winter, Chairman; Mr. Kieran Crowley, Mr. Padraic M Fallon. The responsibilities of the Corporate Social Responsibility (“CSR”) Committee are to recommend Group CSR policies and objectives, review and direct CSR activities across the Group, monitor CSR best practice developments, and review and approve corporate-giving budgets and substantial philanthropic donations. The Committee met on four occasions during 2006. Nomination and Corporate Governance Committee Members: Mr. Dermot Gleeson, Chairman; Mr. Padraic M Fallon Mr. Don Godson; Mr. John B McGuckian; Mr. Eugene Sheehy and Mr. Michael J Sullivan. The Nomination and Corporate Governance Committee’s responsibilities include: recommending candidates to the Board for appointment as Directors; reviewing the size, structure and composition of the Board; and reviewing succession planning. The search for suitable candidates for the Board is a continuous process, and recommendations for appointment are made, based on merit and objective criteria, following an appraisal process and interviews. During 2006 and immediately after the year-end, appointments were made to the Board on the recommendation of the Nomination and Corporate Governance Committee.The Committee is also responsible for reviewing the Company’s corporate governance policies and practices. During the year, the Committee reviewed its performance and terms of reference, arising from which a number of modifications were made to the terms of reference. The Committee met on five occasions during 2006. Remuneration Committee Members: Mr. John B McGuckian, Chairman (until 31 May 2006); Mr. Don Godson, Chairman (from 1 June 2006); Mr. Dermot Gleeson and Mr. Jim O’Leary. The Remuneration Committee’s responsibilities include 43 Corporate Governance recommending to the Board: (a) Group remuneration policies and practices; (b) the remuneration of the Chairman of the Board (which matter is considered in his absence); (c) performance-related bonus schemes for Executives; and (d) the operation of share-based incentive schemes. The Committee also determines the remuneration of the Group Chief Executive, and, in consultation with the Group Chief Executive, the remuneration of the other Executive Directors and the other members of the Group Executive Committee, under advice to the Board.The Committee receives independent professional advice from remuneration consultants. During the year, the Committee reviewed its performance and terms of reference, arising from which a number of modifications were made to the terms of reference. The Committee met on five occasions during 2006. Directors’ Remuneration The Report on Directors’ Remuneration and Interests appears on pages 135 to 139. Relations with Shareholders To strengthen communication with shareholders, the Company circulates each year, along with the statutory Annual Report & Accounts, a Summary Review, which is a short, user-friendly booklet explaining features of the Company’s performance in the previous year. It also focuses on strategy, performance over the previous five years and interaction with customers and the wider community and also comments on the membership of the Board, and other issues. Website Shareholders have the option of accessing the Annual Report and Accounts on AIB’s website, instead of receiving that document by post. The website contains, for the previous five years, the Annual Report and Accounts, the Interim Report, and the Annual Report on Form 20-F. The Company’s presentations to fund managers and analysts of Annual and Interim Financial Results are broadcast live on the internet, and may be accessed on www.aibgroup.com/webcast. The times of the broadcasts are announced in advance on the website, which is updated with the Company’s Stock Exchange releases, including the Trading Updates, usually issued in June and December, and formal presentations to analysts and investors. These items are thus available for review by all shareholders with internet access. Annual General Meeting All shareholders are invited to attend the AGM and to participate in the proceedings. Shareholders are invited to submit written questions in advance of the AGM, and the more frequently raised questions are dealt with at the AGM. Subsequently, the Chairman writes to each shareholder who has submitted a question. At the AGM, it is practice to give an update on the Group’s performance and developments of interest, by way of video presentation. Separate resolutions are proposed on each separate issue.The proportion of proxy votes lodged for and against each resolution is indicated; this shows what the voting position would be if all votes cast, including votes cast by shareholders not in attendance, were taken into account.With effect from the 2007 AGM, in compliance with the updated Combined Code on Corporate Governance published in June 2006: - proxy forms will provide the option for shareholders to direct their proxies to withhold their vote; - information previously provided at the AGM, and made available on AIB’s website shortly thereafter, will be enhanced to include: (1) the number of shares in respect of which proxy appointments have been validly made for each resolution; (2) the number of votes for and against each resolution; and (3) the number of shares in respect of which votes have been withheld. The Chairmen of the Board’s Committees are available to answer questions about the Committees’ activities. It is usual for all Directors to attend the AGM and to be available to meet shareholders before and after the Meeting. A Help Desk facility is available to shareholders attending. The Company’s 2007 AGM is scheduled to be held on 9 May, at the Radisson SAS Hotel in Galway, and it is intended that the Notice of the Meeting will be posted to shareholders on 5 April. This represents a notice period of 33 calendar days or 20 working days. 44 Institutional Shareholders The Company held over 300 meetings with its principal institutional shareholders and with financial analysts and brokers during 2006. The Group Chief Executive, the Group Finance Director, Heads of Divisions, other Executive Management as requested by shareholders, and the General Manager, Group Finance participated in those meetings, at which care was taken to ensure that price-sensitive information was not divulged. Company representatives also spoke at a number of investor conferences. The Chairman and the Senior Independent Non-Executive Director are available to meet institutional shareholders, and the links with those shareholders and the communication of their views to the Board were strengthened through the following steps: the Chairman wrote to - institutional shareholders in Ireland, the UK, Europe and North America, offering to meet them if they considered such meetings to be useful; a research project was undertaken by external consultants into the views of AIB’s largest institutional shareholders (controlling 25% of AIB’s shares), and the results were presented to the Board; institutional shareholders and financial analysts and brokers attended the Group’s “Meet the Management” conference in London, on 8 November 2006, which was also attended by the Chairman; the General Manager, Group Finance reported on institutional shareholders’ - - - - views to the Board; and analysts’ and brokers’ briefings on the Company were circulated to the Directors, on receipt, throughout the year. Accountability and Audit Accounts and Directors’ Responsibilities The Accounts and other information presented in the 2006 Annual Report and Accounts are consistent with the Code Principle requiring the presentation of “a balanced and understandable assessment of the Company’s position and prospects”.The Statement concerning the responsibilities of the Directors in relation to the Accounts appears on page 146. Going Concern The Accounts continue to be prepared on a going concern basis, as the Directors are satisfied that the Company and the Group as a whole have the resources to continue in business for the foreseeable future. In forming this view, the Directors have reviewed the Group’s budget for 2007. Internal Control The Directors acknowledge that they are responsible for the Group’s system of internal control and for reviewing its effectiveness. The Turnbull Guidance (“Internal Control: Revised Guidance for Directors on the Combined Code”), issued by the Financial Reporting Council in October 2005, assists Directors in complying with the Code’s requirements in respect of internal control. That Guidance states that systems of internal control are designed to manage, rather than eliminate, the risk of failure to achieve business objectives, and can provide only reasonable and not absolute assurance against material misstatement or loss. The Group’s system of internal control includes: - a clearly-defined management structure, with defined lines of authority and accountability; - a comprehensive annual budgeting and financial reporting system, which incorporates clearly-defined and communicated common accounting policies and financial control procedures, including those relating to authorisation limits; capital expenditure and investment procedures; physical and computer security; and business continuity planning. The accuracy and integrity of the Group’s financial information is confirmed through Divisional and Group-level reports to the Group Finance Director; the Group Internal Audit function, which is responsible for independently assessing the adequacy, effectiveness and sustainability of the Group’s governance, risk management and control processes; (the Group Internal Auditor attended the Board on two occasions in 2006 in confidential session in the absence of management); the Group Risk Management function, which is responsible for ensuring that risks are identified, assessed and managed throughout the Group; the Group Regulatory Compliance function, which - - - 45 accord with the above-mentioned Guidance. The Directors confirm that, with the assistance of reports from the Audit Committee and Management, they have reviewed the effectiveness of the Group’s system of internal control for the year ended 31 December 2006. Compliance Statement The foregoing explains how the Company has applied the principles set out in the Code. The Company has complied, throughout 2006, with the Code’s provisions. A brief description of the significant differences between AIB’s corporate governance practices and those followed by US companies under the New York Stock Exchange’s listing standards is provided on AIB’s website: www.aibgroup.com. - reports independently through the Group General Manager, Regulatory Compliance, to the Audit Committee on the compliance framework across the Group and on management’s attention to compliance matters; the Audit Committee, which receives reports on various aspects of control, including reports on the design and operating effectiveness of the internal controls over financial reporting in compliance with the requirements of Section 404 of the US Sarbanes-Oxley Act 2002, reviews the Group’s Statutory Accounts and other published financial statements and information, and ensures that no restrictions are placed on the scope of the statutory audit or on the independence of the Internal Audit and Regulatory Compliance functions. The Audit Committee reports to the Board on these matters, and on compliance with relevant laws and regulations, and related issues; - - appropriate policies and procedures relating to capital management, asset and liability management (including interest rate risk, exchange rate risk and liquidity management), credit risk management, and operational risk management. Independent testing of the risk management and control framework is undertaken by the Internal Audit function; regular review by the Board of overall strategy, business plans, variances against budgets and other performance data. The Group’s structure and processes for identifying, evaluating and managing the significant credit, market and operational risks faced by the Group are described in pages 30 to 37. Those processes, which have been in place throughout the year and up to the date of the approval of the Accounts, are regularly reviewed by the Board, and 46 Accounting policies The significant accounting policies that the Group applied in the preparation of the financial statements for the year ended 31 December 2006 are set out below. 1 Reporting entity Allied Irish Banks, p.l.c. (the parent company) is a company domiciled in Ireland.The address of the company’s registered office is Bankcentre, Ballsbridge, Dublin 4, Ireland.The consolidated financial statements include the accounts of Allied Irish Banks, p.l.c. (the parent company) and its subsidiary undertakings, collectively referred to as the “Group”, where appropriate, including certain special purpose entities and are made up to the end of the financial year.The Group is primarily involved in retail and corporate banking, investment banking and asset management services. 2 Statement of compliance The consolidated financial statements have been presented in accordance with the recognition and measurement principles of International Accounting Standards and International Financial Reporting Standards (collectively “IFRS”) as adopted by the European Union (“EU”) and applicable at 31 December 2006. The accounting policies have been consistently applied by Group entities. The financial statements also comply with the requirements of Irish Statute comprising the Companies Acts 1963 to 2006 and the European Communities (Credit Institutions:Accounts) Regulations, 1992 as amended by the European Communities (International Financial Reporting Standards and Miscellaneous Amendments) Regulations 2005 and the Asset Covered Securities Act 2001. Both the parent company and the Group financial statements have been prepared in accordance with IFRSs as adopted by the EU. In publishing the parent company financial statements together with the Group financial statements, AIB has taken advantage of the exemption in paragraph 2 of the European Communities (Credit Institutions: Accounts) Regulations, 1992 not to present its individual income statement and related notes that form part of these approved financial statements. 3 Basis of preparation The financial statements are presented in euro, which is the functional currency of the parent company and a significant number of its subsidiaries, rounded to the nearest million. The financial statements have been prepared under the historical cost basis, with the exception of the following assets and liabilities which are stated at their fair value: derivative financial instruments, financial instruments at fair value through profit or loss, certain hedged financial assets and financial liabilities and financial assets classified as available-for-sale. The preparation of financial statements requires management to make judgments, estimates and assumptions that affect the application of policies and reported amounts of certain assets, liabilities, revenues and expenses, and disclosures of contingent assets and liabilities.The estimates and assumptions are based on historical experience and various other factors that are believed to be reasonable under the circumstances. Since management’s judgement involves making estimates concerning the likelihood of future events, the actual results could differ from those estimates. Revisions to accounting estimates are recognised in the period in which the estimate is revised and in any future period affected. The estimates that have a significant effect on the financial statements and estimates with a significant risk of material adjustment in the next year are in the areas of impairment of financial assets, retirement benefit liabilities and fair value of certain financial assets and financial liabilities. A description of these estimates and judgments is set out within item 32 of this section. 4 Basis of consolidation Subsidiary undertakings A subsidiary is one where the Group has the power, directly or indirectly, to govern the financial and operating policies of the entity, so as to obtain benefits from its activities.The existence and effect of potential voting rights that are currently exercisable or convertible are considered in assessing whether the Group controls the entity. Subsidiaries are consolidated from the date on which control is transferred to the Group until the date that control ceases. A special purpose entity is an entity created to accomplish a narrow and well-defined objective such as the securitisation of particular assets, or the execution of a specific borrowing or lending transaction. The financial statements of special purpose entities are included in the Group’s consolidated financial statements where the substance of the relationship is that the Group controls the special purpose entity. 47 Accounting policies (continued) 4 Basis of consolidation (continued) The Group uses the purchase method of accounting to account for the acquisition of subsidiary undertakings. The cost of an acquisition is measured as the fair value of the assets given, equity instruments issued and liabilities incurred or assumed at the date of the transaction, plus costs directly attributable to the acquisition. Identifiable assets acquired are fair valued at the acquisition date, irrespective of the extent of any minority interest. The excess of the cost of acquisition over the fair value of the Group’s share of the identifiable net assets acquired is recorded as goodwill. The Group commonly acts as trustee and in other fiduciary capacities that result in the holding or placing of assets on behalf of individuals, trusts, retirement benefit plans and other institutions. These assets and income arising thereon are excluded from the financial statements, as they are not assets of the Group. Associated undertakings An associate is generally one in which the Group’s interest is greater than 20% and less than 50% and in which the Group has significant influence, but not control, over the entity’s operating and financial policies. Investments in associated undertakings are initially recorded at cost and increased (or decreased) each year by the Group’s share of the post acquisition net income (or loss), and other movements reflected directly in the equity of the associated undertaking. Goodwill arising on the acquisition of an associated undertaking is included in the carrying amount of the investment (net of any accumulated impairment loss).When the Group’s share of losses in an associate has reduced the carrying amount to zero, including any other unsecured receivables, the Group does not recognise further losses, unless it has incurred obligations to make payments on behalf of the associate. The Group’s share of the results of associates after tax reflects the Group’s proportionate interest in the associates and is based on financial statements made up to a date not earlier than three months before the balance sheet date, adjusted to conform with the accounting polices of the Group. Transactions eliminated on consolidation Intra-group balances and any unrealised income and expenses, arising from intra-group transactions are eliminated on consolidation. Unrealised losses are eliminated in the same way as unrealised gains, but only to the extent that there is no evidence of impairment. Unrealised gains on transactions with associated undertakings are eliminated to the extent of the Group’s interest in the investees. 5 Foreign currency translation Items included in the financial statements of each of the Group’s entities are measured using their functional currency, being the currency of the primary economic environment in which the entity operates. Transactions and balances Foreign currency transactions are translated into the respective entity’s functional currency using the exchange rates prevailing at the dates of the transactions. Monetary assets and liabilities denominated in foreign currencies are retranslated at the rate prevailing at the period end. Foreign exchange gains and losses resulting from the settlement of such transactions and from the retranslation at period end exchange rates of the amortised cost of monetary assets and liabilities denominated in foreign currencies are recognised in the income statement except for qualifying cash flow hedges. Exchange differences on equities and similar non-monetary items held at fair value through profit or loss are reported as part of the fair value gain or loss. Exchange differences on equities classified as available-for-sale financial assets, together with exchange differences on non-monetary assets are reported directly in equity. Foreign operations The results and financial position of all Group entities that have a functional currency different from the Euro are translated into Euro as follows: - assets and liabilities including goodwill and fair value adjustments arising on consolidation of foreign operations are translated at the closing rate; - income and expenses are translated into Euro at the average rates of exchange during the period where these rates approximate to the foreign exchange rates ruling at the dates of the transactions; and - Since 1 January 2004, the Group’s date of transition to IFRS, all resulting exchange differences are included in the foreign currency translation reserve within shareholders’ equity. When a foreign operation is disposed of in part or in full, the relevant amount of the foreign currency translation reserve is transferred to the income statement. 48 6 Interest income and expense recognition Interest income and expense is recognised in the income statement for all interest-bearing financial instruments using the effective interest method. The effective interest method is a method of calculating the amortised cost of a financial asset or financial liability (or group of binomial assets and financial liabilities) and of allocating the interest income or interest expense over the relevant period. The effective interest rate is the rate that exactly discounts the estimated future cash payments or receipts through the expected life of the financial instrument,or when appropriate, a shorter period, to the net carrying amount of the financial asset or financial liability. The application of the method has the effect of recognising income (and expense) receivable (or payable) on the instrument evenly in proportion to the amount outstanding over the period to maturity or repayment. In calculating the effective interest rate, the Group estimates cash flows (using projections based on its experience of customers’ behaviour) considering all contractual terms of the financial instrument but excluding future credit losses.The calculation takes into account all fees, including those for early redemption, and points paid or received between parties to the contract that are an integral part of the effective interest rate, transaction costs and all other premiums and discounts. All costs associated with mortgage incentive schemes are included in the effective interest calculation. Fees and commissions payable to third parties in connection with lending arrangements, where these are direct and incremental costs related to the issue of a financial instrument, are included in interest income as part of the effective interest rate. Interest income and expense presented in the income statement includes:- - Interest on financial assets and financial liabilities at amortised cost on an effective interest method. - Interest on available-for-sale investment securities on an effective interest method. - Interest income and expense on qualifying hedge derivatives designated as cash flow hedges or fair value hedges. 7 Fee and commission income Fees and commissions are generally recognised on an accruals basis when the service has been provided, unless they have been included in the effective interest rate calculation. Loan syndication fees are recognised as revenue when the syndication has been completed and the Group has retained no part of the loan package for itself or retained a part at the same effective interest rate as applicable to the other participants. Portfolio and other management advisory and service fees are recognised based on the applicable service contracts. Asset management fees related to investment funds are recognised over the period the service is provided.The same principle is applied to the recognition of income from wealth management, financial planning and custody services that are continuously provided over an extended period of time. Commitment fees, together with related direct costs, for loan facilities where draw down is probable are deferred and recognised as an adjustment to the effective interest on the loan once drawn. Commitment fees in relation to facilities where draw down is not probable are recognised over the term of the commitment on a straight line basis. 8 Net trading income Net trading income comprises gains less losses relating to trading assets and liabilities, and includes all realised and unrealised fair value changes. 9 Net income from other financial assets designated at fair value through profit or loss Net income from other financial assets designated at fair value through profit or loss relates to non-qualifying derivatives held for risk managment purposes and financial assets and liabilities designated at fair value through profit or loss, and includes all realised and unrealised fair value changes, interest and foreign exchange differences. 10 Dividend income Dividend income is recognised when the right to receive income is established. Usually this is the ex-dividend date for equity securities. 11 Operating leases Payment made under operating leases are recognised in the income statement on a straight line basis over the term of the lease. Lease incentives received, or premiums paid, at inception of the lease are recognised as an integral part of the total lease expense, over the term of the lease. 49 Accounting policies (continued) 12 Employee benefits Retirement benefit obligations The Group provides employees with post retirement benefits mainly in the form of pensions. The Group provides a number of defined benefit and defined contribution retirement benefit schemes. In addition, the Group contributes, according to local law in the various countries in which it operates, to Governmental and other plans which have the characteristics of defined contribution plans. The majority of the defined benefit schemes are funded. Full actuarial valuations of defined benefit schemes are undertaken every three years and are updated to reflect current conditions at each balance sheet date. Scheme assets are measured at fair value determined by using current bid prices. Scheme liabilities are measured on an actuarial basis by estimating the amount of future benefit that employees have earned for their service in current and prior periods discounting that benefit at the current rate of return on a high quality corporate bond of equivalent term and currency to the liability.The calculation is performed by a qualified actuary using the projected unit credit method. The difference between the fair value of the plan assets and the present value of the defined benefit obligation at the balance sheet date is recognised in the balance sheet. Schemes in surplus are shown as assets and schemes in deficit, together with unfunded schemes, are shown as liabilities. Actuarial gains and losses are recognised immediately in the statement of recognised income and expense. The cost of providing defined benefit pension schemes to employees, comprising the current service cost, past service cost, the expected return on plan assets and the change in the present value of scheme liabilities arising from the passage of time is charged to the income statement within personnel expenses. The cost of the Group’s defined contribution schemes, is charged to the income statement in the accounting period in which it is incurred. Any contributions unpaid at the balance sheet date are included as a liability. The Group has no further obligation under these plans once these contributions have been paid. Short-term employee benefits Short-term employee benefits, such as salaries and other benefits, are accounted for on an accruals basis over the period during which employees have provided services. Bonuses are recognised to the extent that the Group has a legal or constructive obligation to its employees that can be measured reliably. The cost of providing subsidised staff loans and preferential rates on staff deposits is charged within personnel expenses. Termination benefits Termination benefits are recognised as an expense when the Group is demonstrably committed, without the realistic possibility of withdrawal, to a formal plan to terminate employment before the normal retirement date.Termination benefits for voluntary redundancies are recognised if the Group has made an offer encouraging voluntary redundancy, it is probable that the offer will be accepted and the number of acceptances can be estimated reliably. Share based compensation The Group operates a number of equity settled share based compensation plans. For grants of options after 7 November 2002, the fair value of the employee services received is measured by reference to the fair value of the shares or share options granted on the date of the grant.The cost of the employee services received in exchange for the shares or share options granted is recognised in the income statement over the period during which the employees become unconditionally entitled to the options, which is the vesting period. The amount expensed is determined by reference to the fair value of the options granted. The fair value of the options granted is determined using option pricing models, which take into account the exercise price of the option, the share price at date of grant of the option, the risk free interest rate, the expected volatility of the share price over the life of the option and other relevant factors. Vesting conditions included in the terms of the grant are not taken into account in estimating fair value except where those terms relate to market conditions. Non- market vesting conditions are taken into account by adjusting the number of shares or share options included in the measurement of the cost of employee services so that ultimately the amount recognised in the income statement reflects the number of vested shares or share options.Where vesting conditions are related to market conditions, the charges for the services received are recognised regardless of whether or not the market related vesting conditions are met, provided that the non-market vesting conditions are met. The expense relating to share based payments is credited to shareholders’ equity.Where the share based payment arrangements give rise to the issue of new shares, the proceeds of issue of the shares are credited to share capital (nominal amount) and share premium when the options are exercised.When the share based payments give rise to the reissue of shares from treasury shares, the proceeds of issue are credited to shareholders’ equity. In addition, there is a transfer between the share based payment reserve and profit and loss account, reflecting the cost of the share based payment already recognised in the income statement. 50 13 Non-credit risk provisions Provisions are recognised for present legal or constructive obligations arising as consequences of past events where it is probable that a transfer of economic benefit will be necessary to settle the obligation, and it can be reliably estimated. When the effect is material, provisions are determined by discounting expected future cash flows at a pre-tax rate that reflects current market assessments of the time value of money and, where appropriate, the risks specific to the liability. Payments are deducted from the present value of the provision and interest at the relevant discount rates is charged annually to interest expense using the effective interest method. Changes in the present value of the liability as a result of movements in interest rates are included in other financial income.The present value of provisions is included in other liabilities. When a leasehold property ceases to be used in the business, provision is made, where the unavoidable costs of future obligations relating to the lease are expected to exceed anticipated income.The provision is calculated using market rates of interest to reflect the long-term nature of the cash flows. Before the provision is established, the Group recognises any impairment loss on the assets associated with the lease contract. Restructuring costs Where the Group has a formal plan for restructuring a business and has raised valid expectations in the areas affected by the restructuring, by starting to implement the plan or announcing its main features, provision is made for the anticipated cost of restructuring, including retirement benefits and redundancy costs, when an obligation exists.The provision raised is normally utilised within twelve months. Future operating costs are not provided for. Legal claims and other contingencies Provisions are made for legal claims where the Group has present legal or constructive obligations as a result of past events and it is more likely than not that an outflow of resources will be required to settle the obligation and the amount can be reasonably estimated. Contingent liabilities are possible obligations whose existence will be confirmed only by uncertain future events giving rise to present obligations where the transfer of economic benefit is uncertain or cannot be reliably measured. Contingent liabilities are not recognised but are disclosed in the notes to the financial statements unless they are remote. 14 Income tax, including deferred income tax Income tax comprises current and deferred tax. Income tax is recognised in the income statement except to the extent that it relates to items recognised directly in equity, in which case it is recognised in equity. Current tax is the expected tax payable on the taxable income for the year using tax rates enacted or substantively enacted at the balance sheet date and any adjustment to tax payable in respect of previous years. Income tax recoverable on tax allowable losses is recognised as an asset only to the extent that it is regarded as recoverable by offset against current or future taxable profits. Deferred income tax is provided, using the balance sheet liability method, on temporary differences between the tax bases of assets and liabilities and their carrying amounts for financial reporting purposes. Deferred income tax is determined using tax rates based on legislation enacted or substantively enacted at the balance sheet date and expected to apply when the deferred tax asset is realised or the deferred tax liability is settled. Deferred tax assets are recognised where it is probable that future taxable profits will be available against which the temporary differences will be utilised. Deferred and current tax assets and liabilities are only offset when they arise in the same tax reporting group and where there is both the legal right and the intention to settle on a net basis or to realise the asset and settle the liability simultaneously. The principal temporary differences arise from depreciation of property, plant and equipment, revaluation of certain financial assets and financial liabilities including derivative contracts, provisions for pensions and other post retirement benefits, tax losses carried forward, and in relation to acquisitions, on the difference between the fair values of the net assets acquired and their tax base. Deferred income tax is provided on temporary differences arising from investments in subsidiaries and associates, except where the timing of the reversal of the temporary difference is controlled by the Group and it is probable that the difference will not reverse in the foreseeable future. In addition, the following temporary differences are not provided for: goodwill not deductible for tax purposes and the initial recognition of assets and liabilities that affect neither accounting nor taxable profit. Income tax payable on profits, based on the applicable tax law in each jurisdiction, is recognised as an expense in the period in which the profits arise.The tax effects of income tax losses available for carry forward are recognised as an asset when it is probable that future taxable profits will be available against which these losses can be utilised. 51 Accounting policies (continued) 15 Construction contracts Revenue from construction contacts is recognised when it is probable that the economic benefits of the transaction will flow to the Group and when the revenue, the costs (both incurred and future), the outcome of the contract and its stage of completion can all be measured reliably. Once the above criteria are met, both contract revenue and contract costs are recognised by reference to the stage of completion of the contract. When the outcome of a construction contract cannot be estimated reliably, no profit is recognised, but revenue is recognised to the extent of costs incurred that are probable of recovery. Costs are recognised as an expense in the income statement in the accounting period in which the work is performed. 16 Impairment of property, plant and equipment, goodwill and intangible assets At each balance sheet date, or more frequently where events or changes in circumstances dictate, property, plant and equipment and intangible assets, are assessed for indications of impairment. If indications are present, these assets are subject to an impairment review. Goodwill is subject to an impairment review as at the balance sheet date each year. The impairment review comprises a comparison of the carrying amount of the asset or cash generating unit, with its recoverable amount. Cash-generating units are the lowest level at which management monitors the return on investment in assets.The recoverable amount is determined as the higher of the net selling price of the asset or cash generating unit and its value in use. Net selling price is calculated by reference to the amount at which the asset could be disposed of in an arm's length transaction evidenced by an active market or recent transactions for similar assets. Value in use is calculated by discounting the expected future cash flows obtainable as a result of the asset's continued use, including those resulting from its ultimate disposal, at a market-based discount rate on a pre-tax basis. The carrying values of property, plant and equipment and intangible assets are written down by the amount of any impairment and this loss is recognised in the income statement in the period in which it occurs. A previously recognised impairment loss relating to a fixed asset may be reversed in part or in full when there is an indication that the impairment loss may no longer exist and there has been a change in the estimates used to determine the asset’s recoverable amount. The carrying amount of the asset will only be increased up to the amount that it would have been had the original impairment not been recognised. Impairment losses on goodwill are not reversed. 17 Impairment of financial assets It is Group policy to make provisions for impairment of financial assets to reflect the losses inherent in those assets at the balance sheet date. The Group assesses at each balance sheet date whether there is objective evidence that a financial asset or a portfolio of financial assets is impaired. A financial asset or portfolio of financial assets is impaired and impairment losses are incurred if, and only if, there is objective evidence of impairment as a result of one or more loss events that occurred after the initial recognition of the asset on or before the balance sheet date, (“a loss event”) and that loss event or events has had an impact such that the estimated present value of future cash flows is less than the current carrying value of the financial asset, or portfolio of financial assets. Objective evidence that a financial asset or a portfolio of financial assets is impaired includes observable data that comes to the attention of the Group about the following loss events: a) significant financial difficulty of the issuer or obligor; b) a breach of contract, such as a default or delinquency in interest or principal payments; c) the granting to the borrower of a concession, for economic or legal reasons relating to the borrower’s financial difficulty that the Group would not otherwise consider; it becomes probable that the borrower will enter bankruptcy or other financial reorganisation; the disappearance of an active market for that financial asset because of financial difficulties; or d) e) f) observable data indicating that there is a measurable decrease in the estimated future cash flows from a portfolio of financial assets since the initial recognition of those assets, although the decrease cannot yet be identified with the individual financial assets in the portfolio, including: i. ii. national or local economic conditions that correlate with defaults on the assets in the portfolio. adverse changes in the payment status of borrowers in the portfolio; The Group first assesses whether objective evidence of impairment exists individually for financial assets that are individually significant, and individually or collectively for financial assets that are not individually significant (i.e. individually insignificant). If the Group determines that no objective evidence of impairment exists for an individually assessed financial asset, whether significant or not, it includes the asset in a group of financial assets with similar credit risk characteristics and includes these performing assets under the 52 17 Impairment of financial assets (continued) collective incurred but not reported (“IBNR”) assessment. An IBNR impairment provision represents an interim step pending the identification of impairment losses on an individual asset in a group of financial assets. As soon as information is available that specifically identifies losses on individually impaired assets in a group, those assets are removed from the group. Assets that are individually assessed for impairment and for which an impairment loss is, or continues to be, recognised are not included in a collective assessment of impairment. For loans and receivables and assets held to maturity, the amount of impairment loss is measured as the difference between the asset’s carrying amount and the present value of estimated future cash flows discounted at the asset's original effective interest rate. The amount of the loss is recognised using an allowance account and the amount of the loss is included in the income statement. The calculation of the present value of the estimated future cash flows of a collateralised financial asset reflects the cash flows that may result from foreclosure costs for obtaining and selling the collateral, whether or not foreclosure is probable. For the purpose of collective evaluation of impairment (individually insignificant impaired assets and IBNR) financial assets are grouped on the basis of similar risk characteristics. These characteristics are relevant to the estimation of future cash flows for groups of such assets by being indicative of the counterparty's ability to pay all amounts due according to the contractual terms of the assets being evaluated. Future cash flows in a group of financial assets that are collectively evaluated for impairment are estimated on the basis of the contractual cash flows of the assets in the group and historical loss experience for assets with credit risk characteristics similar to those in the group. Historical loss experience is adjusted on the basis of current observable data to reflect the effects of current conditions that did not affect the period on which the historical loss experience is based and to remove the effects of conditions in the historical period that do not currently exist. The methodology and assumptions used for estimating future cash flows are reviewed regularly to reduce any differences between loss estimates and actual loss experience. Following impairment, interest income is recognised using the original effective rate of interest which was used to discount the future cash flows for the purpose of measuring the impairment loss. If, in a subsequent period, the amount of the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment was recognised, the previously recognised impairment loss is reversed by adjusting the allowance account. The amount of the reversal is recognised in the income statement. When a loan has been subjected to a specific provision and the prospects of recovery do not improve, a time will come when it may be concluded that there is no real prospect of recovery. When this point is reached, the amount of the loan which is considered to be beyond the prospect of recovery is written off against the related provision for loan impairment. Subsequent recoveries of amounts previously written off decrease the amount of the provision for loan impairment in the income statement. Assets acquired in exchange for loans and receivables in order to achieve an orderly realisation are accounted for as a disposal of the loan and an acquisition of an asset. Any further impairment of the assets or business acquired is treated as an impairment of the relevant asset and not as an impairment of the original instrument. In the case of equity instruments classified as available for sale, a significant or prolonged decline in the fair value of the instrument below its cost is considered in determining whether impairment exists. Where such evidence exists, the cumulative net loss that had been previously recognised directly in equity is removed from equity and recognised in the income statement. Reversals of impairment of equity shares are not recognised in the income statement and increases in the fair value of equity shares after impairment are recognised directly in equity. In the case of debt instruments classified as available for sale, impairment is assessed based on the same criteria as all other financial assets. Reversals of impairment of debt securities are recognised in the income statement. 18 Financial assets The Group classifies its financial assets into the following categories: - financial assets at fair value through profit or loss; loans and receivables; held to maturity investments; and available for sale financial assets. Purchases and sales of financial assets are recognised on trade date, being the date on which the Group commits to purchase or sell the assets. Loans are recognised when cash is advanced to the borrowers. Financial assets are initially recognised at fair value, however, with the exception of financial assets at fair value through profit or loss, the initial fair value includes direct and incremental transaction costs. The fair value of assets traded in active markets is based on current bid prices. In the absence of current bid prices, the Group establishes a fair value using valuation techniques. These include the use of recent arm’s-length transactions, reference to other similar instruments, discounted cash flow analysis, option pricing models and other valuation techniques commonly used by market participants. Interest is calculated using the effective interest method and credited to the income statement. Dividends on available-for-sale equity securities are recognised in the income statement when the entity’s right to receive payment is established. Impairment losses 53 Accounting policies (continued) 18 Financial assets (continued) and translation differences on monetary items are recognised in the income statement. Financial assets are derecognised when the rights to receive cash flows from the financial assets have expired or when the Group has transferred substantially all the risks and rewards of ownership. Financial assets at fair value through profit or loss This category has two sub categories: - Financial assets held for trading; and those designated at fair value through profit or loss at inception. A financial asset is classified in this category if it is held primarily for the purpose of selling in the short term, or if it is so designated by management, subject to certain criteria. The assets are recognised initially at fair value and transaction costs are taken directly to the income statement. Interest and dividends on assets within this category are reported in interest income, and dividend income, respectively. Gains and losses arising from changes in fair value are included directly in the income statement within net trading income. Derivatives are also classified in this category unless they have been designated as hedges. Loans and receivables Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market and which are not classified as available for sale.They arise when the Group provides money or services directly to a customer with no intention of trading the loan. Loans and receivables are initially recognised at fair value including direct and incremental transaction costs and are subsequently carried on an amortised cost basis. Held to maturity Held to maturity investments are non-derivative financial assets with fixed or determinable payments that the Group’s management has the intention and ability to hold to maturity. If the Group was to sell other than an insignificant amount of held to maturity assets, the entire category would be required to be reclassified as available for sale. Available for sale Available for sale financial assets are non-derivative financial investments that are designated as available for sale and are not categorised into any of the other categories described above. Available for sale financial assets are those intended to be held for an indefinite period of time, which may be sold in response to needs for liquidity or changes in interest rates, exchange rates or equity prices. Available for sale financial assets are initially recognised at fair value including direct and incremental transaction costs.They are subsequently held at fair value. Gains and losses arising from changes in fair value are included as a separate component of equity until sale when the cumulative gain or loss is transferred to the income statement. Parent Company accounts: Investment in subsidiary and associated undertakings The company accounts for investments in subsidiary and associated undertakings that are not classified as held for sale at cost less provisions for impairment. If the investment is classified as held for sale, the company accounts for it at the lower of its carrying value and fair value less costs to sell. 19 Financial liabilities Issued financial instruments or their components are classified as liabilities where the substance of the contractual arrangement results in the Group having a present obligation to either deliver cash or another financial asset to the holder, to exchange financial instruments on terms that are potentially unfavourable or to satisfy the obligation otherwise than by the exchange of a fixed amount of cash or another financial asset for a fixed number of equity shares. Financial liabilities are initially recognised at fair value, being their issue proceeds (fair value of consideration received) net of transaction costs incurred. Financial liabilities are subsequently measured at amortised cost, any difference between the proceeds net of transaction costs and the redemption value is recognised in the income statement using the effective interest method. Preference shares, which carry a mandatory coupon, are classified as financial liabilities.The dividends on these preference shares are recognised in the income statement as interest expense using the effective interest method. The Group derecognises a financial liability when its contractual obligations are discharged, cancelled or expired. 54 20 Property, plant and equipment Property, plant and equipment are stated at cost, or deemed cost, less accumulated depreciation and provisions for impairment, if any. Additions and subsequent expenditures are capitalised only to the extent that they enhance the future economic benefits expected to be derived from the asset. No depreciation is provided on freehold land. Property, plant and equipment are depreciated on a straight line basis over their estimated useful economic lives. Depreciation is calculated based on the gross carrying amount, less the estimated residual value at the end of the assets’ economic life. The Group uses the following useful lives when calculating depreciation: Freehold buildings and long-leasehold property 50 years Short leasehold property Life of lease, up to 50 years Costs of adaptation of freehold and leasehold property Branch properties Office properties Computers and similar equipment Fixtures and fittings and other equipment *Subject to the maximum remaining life of the lease. up to 10 years* up to 15 years* 3 – 5 years 3 – 10 years The Group reviews its depreciation rates regularly, at least annually, to take account of any change in circumstances.When deciding on useful lives and methods, the principal factors that the Group takes into account are the expected rate of technological developments and expected market requirements for, and the expected pattern of usage of, the assets.When reviewing residual values, the Group estimates the amount that it would currently obtain for the disposal of the asset, after deducting the estimated cost of disposal if the asset were already of the age and condition expected at the end of its useful life. Gains and losses on disposal of property, plant and equipment are included in the income statement. It is Group policy not to revalue its property, plant and equipment. 21 Intangible assets Goodwill Goodwill may arise on the acquisition of subsidiary and associated undertakings. Purchased goodwill is the excess of the fair value of the purchase consideration and direct costs of making the acquisition, over the fair value of the Group’s share of the assets acquired and the liabilities and contingent liabilities assumed on the date of the acquisition. For the purpose of calculating goodwill, fair values of acquired assets, liabilities and contingent liabilities are determined by reference to market values or by discounting expected future cash flows to present value.This discounting is performed either using market rates or by using risk-free rates and risk adjusted expected future cash flows. Goodwill is capitalised and reviewed annually for impairment, or more frequently when there are indications that impairment may have occurred. Goodwill is allocated to cash-generating units for the purpose of impairment testing. Goodwill arising on the acquisition of an associated undertaking is included in the carrying amount of the investment in the consolidated financial statements. Gains or losses on the disposal of an entity include the carrying amount of the goodwill relating to the entity sold. Goodwill previously written off to reserves under Irish GAAP has not been reinstated and will not be included in calculating any subsequent profit or loss on disposal. Computer software and other intangible assets Computer software and other intangible assets are stated at cost, less amortisation on a straight line basis and provisions for impairment, if any.The identifiable and directly associated external and internal costs of acquiring and developing software are capitalised where the software is controlled by the Group, and where it is probable that future economic benefits that exceed its cost will flow from its use over more than one year. Costs associated with maintaining software are recognised as an expense when incurred. Capitalised computer software is amortised over 3 to 5 years. Other intangible assets are amortised over the life of the asset. 55 Accounting policies (continued) 22 Derivatives and hedge accounting Derivatives, such as interest rate swaps, options and forward rate agreements are used for trading and for hedging purposes. The Group maintains trading positions in a variety of financial instruments including derivatives.Trading transactions arise both as a result of activity generated by customers and from proprietary trading with a view to generating incremental income. Non-trading derivative transactions comprise transactions held for hedging purposes as part of the Group’s risk management strategy against assets, liabilities, positions or cash flows. Derivatives Derivatives are measured initially at fair value on the date on which the derivative contract is entered into and subsequently remeasured at fair value. Fair values are obtained from quoted market prices in active markets, including recent market transactions, and from valuation techniques, and discounted cash flow models and options pricing models as appropriate. Derivatives are included in assets when their fair value is positive, and in liabilities when their fair value is negative, unless there is the legal ability and intention to settle net. The best evidence of the fair value of a derivative at initial recognition is the transaction price (i.e. the fair value of the consideration given or received) unless the fair value of that instrument is evidenced by comparison with other observable current market transactions in the same instrument (i.e. without modification or repackaging) or based on a valuation technique whose variables include only data from observable markets. Profits or losses are only recognised on initial recognition of derivatives when there are observable current market transactions or valuation techniques that are based on observable market inputs. Embedded derivatives Some hybrid contracts contain both a derivative and a non-derivative component. In such cases, the derivative component is termed an embedded derivative.Where the economic characteristics and risks of embedded derivatives are not closely related to those of the host contract, and the hybrid contract itself is not carried at fair value through profit or loss, the embedded derivative is treated as a separate derivative, and reported at fair value with gains and losses being recognised in the income statement. Hedging All derivatives are carried at fair value in the balance sheet and the accounting treatment of the resulting fair value gain or loss depends on whether the derivative is designated as a hedging instrument, and if so, the nature of the item being hedged.Where derivatives are held for risk management purposes, and when transactions meet the criteria specified in IAS 39 “Financial Instruments: Recognition and Measurement”, the Group designates certain derivatives as either: - (1) hedges of the fair value of recognised assets or liabilities or firm commitments (fair value hedge); or (2) hedges of the exposure to variability of cash flows attributable to a recognised asset or liability, or a highly probable forecasted transaction (cash flow hedge); or (3) hedges of a net investment in a foreign operation. When a financial instrument is designated as a hedge, the Group formally documents the relationship between the hedging instrument and hedged item as well as its risk management objectives and its strategy for undertaking the various hedging transactions.The Group also documents its assessment, both at hedge inception and on an ongoing basis, of whether the derivatives that are used in hedging transactions are highly effective in offsetting changes in fair values or cash flows of hedged items. The Group discontinues hedge accounting when: a) it is determined that a derivative is not, or has ceased to be, highly effective as a hedge; b) the derivative expires, or is sold, terminated, or exercised; c) the hedged item matures or is sold or repaid; or d) a forecast transaction is no longer deemed highly probable. To the extent that the changes in the fair value of the hedging derivative differ from changes in the fair value of the hedged risk in the hedged item; or the cumulative change in the fair value of the hedging derivative differs from the cumulative change in the fair value of expected future cash flows of the hedged item, ineffectiveness arises.The amount of ineffectiveness, (taking into account the timing of the expected cash flows, where relevant) provided it is not so great as to disqualify the entire hedge for hedge accounting, is recorded in the income statement. In certain circumstances, the Group may decide to cease hedge accounting even though the hedge relationship continues to be highly effective by no longer designating the financial instrument as a hedge. 56 22 Derivatives and hedge accounting (continued) Fair value hedge accounting Changes in fair value of derivatives that qualify and are designated as fair value hedges are recorded in the income statement, together with changes in the fair value of the hedged asset or liability that are attributable to the hedged risk. If the hedge no longer meets the criteria for hedge accounting, the fair value hedging adjustment cumulatively made to the carrying value of the hedged item is, for items carried at amortised cost, amortised over the period to maturity of the previously designated hedge relationship using the effective interest method. For available for sale items the fair value hedging adjustment remains in equity until the hedged item affects the income statement. If the hedged item is sold or repaid, the unamortised fair value adjustment is recognised immediately in the income statement. Cash flow hedge accounting The effective portion of changes in the fair value of derivatives that are designated and qualify as cash flow hedges is initially recognised directly in shareholders' equity, and recycled to the income statement in the periods when the hedged item will affect profit or loss. Any ineffective portion of the gain or loss on the hedging instrument is recognised in the income statement immediately. When a hedging instrument expires or is sold, or when a hedge no longer meets the criteria for hedge accounting, any cumulative gain or loss existing in equity at that time, remains in equity and is recognised in the income statement when the forecast transaction arises.When a forecast transaction is no longer expected to occur, the cumulative gain or loss that was reported in equity is immediately transferred to the income statement. Net investment hedge Hedges of net investments in foreign operations, including monetary items that are accounted for as part of the net investment, are accounted for similarly to cash flow hedges.The effective portion of the gain or loss on the hedging instrument is recognised directly in equity and the ineffective portion is recognised immediately in the income statement.The cumulative gain or loss previously recognised in equity is recognised in the income statement on the disposal or partial disposal of the foreign operation. Hedges of net investments may include non-derivative liabilities as well as derivative financial instruments. Derivatives that do not qualify for hedge accounting Certain derivative contracts entered into as economic hedges do not qualify for hedge accounting. Changes in the fair value of derivative instruments that do not qualify for hedge accounting are recognised immediately in the income statement. 23 Non-current assets held for sale and discontinued operations A non-current asset or a group of assets containing a non-current asset (a disposal group) is classified as held for sale if its carrying amount will be recovered principally through sale rather than through continuing use, it is available for immediate sale and sale is highly probable within one year. On initial classification as held for sale, non-current assets and disposal groups are measured at the lower of previous carrying amount and fair value less costs to sell with any adjustments taken to profit or loss.The same applies to gains and losses on subsequent remeasurement. No reclassifications are made in respect of prior periods. A discontinued operation is a component of the Group’s business that represents a separate major line of business or geographical area of operations, or is a subsidiary acquired exclusively with a view to resale, that has been disposed of, has been abandoned or that meets the criteria to be classified as held for sale. Discontinued operations are presented on the income statement (including comparatives) as a separate amount, comprising the total of the post tax profit or loss of the discontinued operations for the period together with any post-tax gain or loss recognised on the measurement to fair value less costs to sell, or on disposal of the assets/disposal groups constituting discontinued operations. 24 Collateral & netting The Group enters into master agreements with counterparties, to ensure that if an event of default occurs, all amounts outstanding with those counterparties will be settled on a net basis. Collateral The Group obtains collateral in respect of customer liabilities where this is considered appropriate.The collateral normally takes the form of a lien over the customer’s assets and gives the Group a claim on these assets for both existing and future liabilities. The collateral is, in general, 57 Accounting policies (continued) Collateral (continued) not recorded on the Group balance sheet. The Group also receives collateral in the form of cash or securities in respect of other credit instruments, such as stock borrowing contracts, and derivative contracts in order to reduce credit risk. Collateral received in the form of securities is not recorded on the balance sheet. Collateral received in the form of cash is recorded on the balance sheet with a corresponding liability or asset.These items are assigned to deposits received from banks or other counterparties in the case of cash collateral received. Any interest payable or receivable arising is recorded as interest expense or interest income respectively. In certain circumstances, the Group will pledge collateral in respect of liabilities or borrowings. Collateral pledged in the form of securities or loans and receivables continues to be recorded on the balance sheet. Collateral paid away in the form of cash is recorded in loans and advances to banks or customers. Any interest payable or receivable arising is recorded as interest expense or interest income respectively. Netting Financial assets and financial liabilities are offset and the net amount reported in the balance sheet if, and only if, there is a currently enforceable legal right to set off the recognised amounts and there is an intention to settle on a net basis, or to realise an asset and settle the liability simultaneously.This is not generally the case with master agreements, and the related assets and liabilities are presented gross in the balance sheet. 25 Financial guarantees Financial guarantees are given to banks, financial institutions and other bodies on behalf of customers to secure loans, overdrafts and other banking facilities (“facility guarantees”), and to other parties in connection with the performance of customers under obligations related to contracts, advance payments made by other parties, tenders, retentions and the payment of import duties. Financial guarantees are initially recognised in the financial statements at fair value on the date that the guarantee is given. Subsequent to initial recognition, the bank’s liabilities under such guarantees are measured at the higher of the initial measurement, less amortisation calculated to recognise in the income statement the fee income earned over the period, and the best estimate of the expenditure required to settle any financial obligation arising as a result of the guarantees at the balance sheet date. Any increase in the liability relating to guarantees is taken to the income statement in provisions for undrawn contractually committed facilities and guarantees. 26 Sale and repurchase agreements (including stock borrowing and lending) Financial assets may be lent or sold subject to a commitment to repurchase them (“repos”). Such securities are retained on the balance sheet when substantially all the risks and rewards of ownership remain with the Group.The liability to the counterparty is included separately on the balance sheet as appropriate. Similarly, when securities are purchased subject to a commitment to resell (“reverse repos”), or where the Group borrows securities, but does not acquire the risks and rewards of ownership, the transactions are treated as collateralised loans, and the securities are not included in the balance sheet. The difference between the sale and repurchase price is accrued over the life of the agreements using the effective interest method. Securities lent to counterparties are also retained in the financial statements. Securities borrowed are not recognised in the financial statements, unless these are sold to third parties, at which point the obligation to repurchase the securities is recorded as a trading liability at fair value and any subsequent gain or loss included in trading income. 27 Leases Lessor Assets leased to customers are classified as finance leases if the lease agreements transfer substantially all the risks and rewards of ownership, with or without ultimate legal title.When assets are held subject to a finance lease, the present value of the lease payments, discounted at the rate of interest implicit in the lease, is recognised as a receivable.The difference between the total payments receivable under the lease and the present value of the receivable is recognised as unearned finance income, which is allocated to accounting periods under the pre-tax net investment method to reflect a constant periodic rate of return. Assets leased to customers are classified as operating leases if the lease agreements do not transfer substantially all the risks and rewards of ownership.The leased assets are included within property, plant and equipment on the Group’s balance sheet and depreciation is provided on the depreciable amount of these assets on a systematic basis over their estimated useful lives. Lease income is recognised on a straight line basis over the period of the lease unless another systematic basis is more appropriate. 58 27 Leases (continued) Lessee Operating lease rentals payable are recognised as an expense in the income statement on a straight line basis over the lease term unless another systematic basis is more appropriate. 28 Shareholders’ equity Issued financial instruments, or their components, are classified as equity where they meet the definition of equity and confer on the holder a residual interest in the assets of the Group. Share issue costs Incremental costs directly attributable to the issue of new shares or options are shown in equity as a deduction, net of tax, from the proceeds. Dividends on ordinary shares Dividends on ordinary shares are recognised in equity in the period in which they are approved by the Company’s shareholders, or in the case of the interim dividend when it has been approved for payment by the Board of Directors. Dividends declared after the balance sheet date are disclosed in the dividends note (note 63). Treasury shares Where the Company or other members of the consolidated Group purchase the Company’s equity share capital, the consideration paid is deducted from total shareholders’ equity as treasury shares until they are cancelled.Where such shares are subsequently sold or re-issued, any consideration received is included in shareholders’ equity. Capital reserves Capital reserves represent transfers from retained earnings in accordance with relevant legislation. Revaluation reserves Revaluation reserves represent the surplus which arose on revaluation of properties prior to the implementation of IAS at 1 January, 2004. Other equity interests Other equity interests relate to the Reserve Capital Instruments (note 48). Available for sale securities reserves Available for sale securities reserves represent the net unrealised change in the fair value of financial investments available for sale. Revenue reserves Revenue reserves represent retained earnings from subsidiaries and associated undertakings. Share based payments reserves The share based payment expense charged to the income statement is credited to the share based payment reserves over the vesting period of the shares and options. Upon grant of shares and exercise of options the amount in respect of the award charged to the share based payment reserves is transferred to revenue reserves. Cash flow hedging reserve Cash flow hedging reserve represents the net gains/losses on effective cash flow hedging instruments that will be recycled to the income statement when the hedged transaction affects profit or loss. Foreign currency translation reserve The foreign currency translation reserve represents the cumulative gains and losses on the retranslation of the Groups’ net investment in foreign operations. 59 Accounting policies (continued) 29 Insurance and investment contracts In its consolidation of Ark Life, up to date of disposal, and in accounting for its interest in Hibernian Life Holdings Limited, the Group has classified its Long Term Assurance business in accordance with IFRS 4 “Insurance Contracts”. Insurance contracts are those contracts containing significant insurance risk. In the case of life contracts, insurance risk exists if the amount payable on the occurrence of an insured event exceeds the assets backing the contract, or could do so in certain circumstances, and the product of the probability of the insured event occurring and the excess amount payable has commercial substance. In particular, guaranteed equity bonds which guarantee a return of the original premium irrespective of the current value of the backing assets are deemed to be insurance contracts notwithstanding that at the balance sheet date there may be no excess of the original premium over the backing assets. Investment contracts are contracts that do not have significant insurance risk. Insurance contracts The Group accounts for its insurance contracts using the european embedded value principles, published by the CFO Forum.The embedded value comprises two components: the net assets attributable to the Group and the present value of the in-force business (“VIF”).The change in the VIF before tax is accounted for as revenue.The value is estimated as the net present value of future cash flows attributable to the Group before tax, based on the market value of the assets at the balance sheet date, using assumptions that reflect experience and a long-term outlook for the economy and then discounting at an appropriate risk discount rate. Insurance contract liabilities are calculated on a statutory basis. Premiums are recognised as revenue when due from the policyholder. Claims, which together with the increase in insurance contract liabilities are recognised in the income statement as they arise, are the cost of all claims arising during the period. Investment contracts Investment contracts are primarily unit-linked. Unit linked liabilities are deemed equal to the value of units attaching to contracts at the balance sheet date.The liability is measured at fair value, which is the bid value of the assets held to match the liability. Increases in investment contract liabilities are recognised in the income statement as they arise. Revenue in relation to investment management services is recognised as the services are provided. Certain upfront fees and charges have been deferred and are recognised as income over the life of the contract. Premiums and claims are accounted for directly in the balance sheet as adjustments to the investment contract liability. 30 Segment reporting Business segments are distinguishable components of the Group that provide products and services that are subject to risks and rewards that are different to those of other business segments. Geographical segments provide products and services within a particular economic environment that is subject to risks and rewards that are different to those of components operating in other economic environments.The Group has determined that business segments are the primary reporting segments. 31 Cash and cash equivalents For the purposes of the cash flow statement, cash comprises cash on hand and demand deposits, and cash equivalents comprise highly liquid investments that are convertible into cash with an insignificant risk of changes in value and with original maturities of less than three months. 32 Accounting estimates and judgements The estimates that have a significant impact on the financial statements and estimates with a significant risk of material adjustment in the next year are set out below:- Loan impairment The estimation of potential loan losses is inherently uncertain and depends upon many factors, including loan loss trends, portfolio grade profiles, local and international economic climates, conditions in various industries to which AIB Group is exposed and other external factors such as legal and regulatory requirements. For example, should the expectation of loss within a portfolio increase, then this may result in an increase to the required incurred but not reported (“IBNR”) loan loss provision level. A specific provision is made against problem loans when, in the judgement of management, the estimated repayment realisable from the obligor, including the value of any security available, is likely to fall short of the amount of principal and interest outstanding on the obligor’s loan or overdraft account.The amount of the specific provision made in AIB Group’s consolidated financial 60 32 Accounting estimates and judgements (continued) Loan impairment (continued) statements is intended to cover the difference between the assets’ carrying value and the present value of estimated future cash flows discounted at the assets’ original effective interest rates. The management process for the identification of loans requiring provision is underpinned by independent tiers of review. Credit quality and loan loss provisioning are independently monitored by head office personnel on a regular basis. A groupwide system for grading advances according to agreed credit criteria exists with an important objective being the timely identification of vulnerable loans so that remedial action can be taken at the earliest opportunity. Credit rating is fundamental to the determination of provisioning in AIB Group; it triggers the process which results in the creation of a specific provision on individual loans where there is doubt on recoverability. IBNR provisions are also maintained to cover loans, which are impaired at balance sheet date and, while not specifically identified, are known from experience to be present in any portfolio of loans. IBNR provisions are maintained at levels that are deemed appropriate by management having considered: credit grading profiles and grading movements, historic loan loss rates, changes in credit management, procedures, processes and policies, levels of credit management skills, local and international economic climates, portfolio sector profiles/industry conditions and current estimates of expected loss in the portfolio. Estimates of expected loss are driven by the following key factors; – Probability of default i.e. the likelihood of a customer defaulting on its obligations over the next 12 months, – Loss given default i.e. the fraction of the exposure amount that will be lost in the event of default, and – Exposure at default i.e. exposure is calculated by adding the expected drawn balance plus a percentage of the unused limits. The rating systems have been internally developed and are continually being enhanced, e.g. externally benchmarked to help underpin the aforementioned factors which determine the estimates of expected loss. Estimated expected loss is only one element in assessing the adequacy of allowances. All AIB divisions assess and approve their provisions and provision adequacy on a quarterly basis.These provisions are in turn reviewed and approved by the AIB Group Credit Committee on a quarterly basis with ultimate Group levels being approved by the Group Audit Committee and the AIB Board of Directors. Fair value of financial instruments Some of the Group’s financial instruments are carried at fair value, including all derivatives, financial assets at fair value through profit or loss and financial investments available for sale. Financial instruments are either priced with reference to a quoted market price for that instrument or by using a valuation model.Where the fair value is calculated using financial-markets pricing models, the methodology is to calculate the expected cash flows under the terms of each specific contract and then discount these values back to a present value.These models use as their basis independently sourced market parameters including, for example, interest rate yield curves, equities and commodities prices, option volatilities and currency rates. Most market parameters are either directly observable or are implied from instrument prices. However, where no observable price is available the instrument fair value will include a provision for the uncertainty in the market parameter based on sale price or subsequent traded levels.The calculation of fair value for any financial instrument may require adjustment of quoted price or model value to reflect the cost of credit risk (where not embedded in underlying models or prices used), hedging costs not captured in pricing models and adjustments to reflect the cost of exiting illiquid or other significant positions.This may also include an estimation of the likely occurrence of future events which could affect the cashflows of the financial instrument.The valuation model used for a particular instrument, the quality and liquidity of market data used for pricing, other fair value adjustments not specifically captured by the model and market data are all subject to internal review and approval procedures and consistent application between accounting periods. Retirement benefits The Group provides a number of defined benefit and defined contribution retirement benefit schemes in various geographic locations, the majority of which are funded. In relation to the defined benefit schemes, a full actuarial valuation is undertaken every three years and is updated to reflect current conditions in the intervening periods. Scheme assets are valued at fair value. Scheme liabilities are measured on an actuarial basis, using the projected unit method and discounted at the current rate of return on a high quality corporate bond of equivalent term and currency to the liability. Actuarial gains and losses are recognised immediately in the statement of recognised income and expense. In calculating the scheme liabilities and the charge to the income statement, the directors have chosen a number of assumptions within an acceptable range, under advice from the Group’s actuaries.The impact on the consolidated income statement and the consolidated balance sheet could be materially different if a different set of assumptions were used. 61 Accounting policies (continued) 33 Prospective accounting changes The following standards/amendments to standards have been approved by the International Accounting Standards Board (IASB), and were adopted by the EU in January 2006 but not early adopted by the Group. These will be adopted in 2007 and thereafter:- Amendment to IAS 1 - Presentation of Financial Statements - Capital Disclosures (effective 1 January 2007).This amendment requires disclosure, both quantitative and qualitative, of an entity’s objectives, policies and processes for managing capital.The impact is not expected to be material in terms of Group reporting. IFRS 7 - Financial Instruments: Disclosures (effective 1 January 2007). This standard updates and augments the disclosure requirements of IAS 30 “Disclosures on the Financial Statements of Banks and Similar Financial Institutions”, and IAS 32 “Financial Instruments: Disclosure and Presentation” and IFRS 4 “Insurance Contracts” and requires the additional qualitative and quantitative disclosures set out below. Qualitative disclosures Further information regarding each type of financial instrument risk including the exposures to risk and how they arise, the Group’s objectives, policies and processes for managing the risk, the methods used to measure the risk, and any changes from the previous period. Quantitative disclosures Further information regarding each type of the Group’s financial instrument risk including a summary of quantitative data about exposure to that risk at the reporting date including any concentrations of credit risk, financial assets that are either past due or impaired, any collateral and other credit enhancements obtained, liquidity risk, market risk, and capital objectives and policies. The impact of IFRS 7 is not expected to be material in terms of Group reporting. IFRIC 7 - Applying the restatement approach under IAS 29 “Financial Reporting in Hyperinflationary Economies”. This interpretation, (effective 1 January 2007) provides guidance on applying the requirements of IAS 29 which deals with financial reporting in hyperinflationary economies. This will not have any impact for Group reporting purposes. IFRIC 8 - Scope of IFRS 2 (effective 1 January 2007).This Interpretation clarifies that the accounting standard IFRS 2 “Share- based Payment” applies to arrangements where an entity makes share-based payments for apparently nil or inadequate consideration. If the identifiable consideration given appears to be less that the fair value of the equity instruments granted or liability incurred, this situation typically indicates that other consideration has been or will be received. IFRS 2 therefore applies.This IFRIC is not expected to have a material impact on the Group. IFRIC 9 - Reassessment of Embedded Derivatives (effective 1 January 2007). This Interpretation clarifies whether an entity should reassess whether an embedded derivative needs to be separated from the host contract after the initial hybrid contract is recognised. IFRIC 9 concludes that reassessment is prohibited, unless there is a change in the terms of the contract that significantly modifies the cash flows that otherwise would be required under the contract, in which case reassessment is required.This IFRIC is not expected to have a material impact on the Group. The EU Transparency Directive is due for transposition into Irish law in 2007. Accordingly, it will impact Group reporting from 1 January 2008. The Directive seeks to enhance transparency in EU capital markets in order to improve investor protection and market efficiency. The Directive sets out publication deadlines and content requirements in relation to annual financial reports and half yearly financial reports. In addition, there is a new requirement for issuers with shares listed on the Irish Stock Exchange to publish management statements during the financial year. This directive is not expected to have a significant impact on Group reporting. The IASB announced on 1 July 2006 that it will not require the application of new IFRSs under development or major amendments to existing IFRSs before 1 January 2009. Delaying implementation of new standards until 2009 provides four years of stability in the IFRS platform of standards for those companies that adopted IFRSs in 2005. Companies will however, be permitted to adopt a new standard on a voluntary basis before its effective date. Interpretations and minor amendments to correct problems identified in practice are not subject to this 2009 delay. 62 Consolidated income statement for the year ended 31 December 2006 Interest and similar income Interest expense and similar charges Net interest income Dividend income Fee and commission income Fee and commission expense Net trading income Other operating income Other income Total operating income Administrative expenses Amortisation/impairment of intangible assets and goodwill Depreciation of property, plant and equipment Total operating expenses Operating profit before provisions Provisions for impairment of loans and receivables Provisions for liabilities and commitments Amounts written off financial investments available for sale Operating profit Associated undertakings Profit on disposal of property Construction contract income Profit on disposal of businesses Profit before taxation – continuing operations Income tax expense - continuing operations Profit after taxation – continuing operations Discontinued operation, net of taxation Profit for the period Attributable to: Equity holders of the parent Minority interests in subsidiaries Basic earnings per share – continuing operations Basic earnings per share – discontinued operations Total Diluted earnings per share – continuing operations Diluted earnings per share – discontinued operations Total Notes 3 4 5 6 7 8 35 36 27 44 11 31 12 13 14 16 1 & 33 17 18(c) 18(a) 18(d) 18(b) 2006 € m 6,928 3,929 2,999 23 1,235 (161) 173 57 1,327 4,326 2,174 53 87 2,314 2,012 118 (15) 1 1,908 167 365 96 79 2,615 433 2,182 116 2,298 2,185 113 2,298 233.5c 13.3c 246.8c 231.4c 13.2c 244.6c 2005 € m 5,151 2,621 2,530 17 1,061 (145) 112 72 1,117 3,647 1,881 47 83 2,011 1,636 115 20 8 1,493 149 14 45 5 1,706 319 1,387 46 1,433 1,343 90 1,433 145.7c 5.3c 151.0c 144.6c 5.2c 149.8c D Gleeson, Chairman. E Sheehy, Group Chief Executive. J O’Donnell, Group Finance Director.W M Kinsella, Secretary. 63 Consolidated balance sheet as at 31 December 2006 Assets Cash and balances at central banks Treasury bills and other eligible bills Items in course of collection Trading portfolio financial assets Derivative financial instruments Loans and receivables to banks Loans and receivables to customers Financial investments available for sale Interests in associated undertakings Intangible assets and goodwill Property, plant and equipment Other assets Current taxation Deferred taxation Prepayments and accrued income Disposal group and assets classified as held for sale Total assets Liabilities Deposits by banks Customer accounts Trading portfolio financial liabilities Derivative financial instruments Debt securities in issue Current taxation Other liabilities Accruals and deferred income Retirement benefit liabilities Provisions for liabilities and commitments Deferred taxation Subordinated liabilities and other capital instruments Disposal group classified as held for sale Total liabilities Shareholders’ equity Share capital Share premium account Other equity interests Reserves Profit and loss account Shareholders’ equity Minority interests in subsidiaries Total shareholders’ equity including minority interests Notes 22 23 24 25 26 30 31 35 36 37 38 39 40 41 24 42 43 10 44 37 45 38 46 48 49 2006 € m 989 196 527 8,953 2,890 12,900 107,115 19,665 1,792 550 593 1,117 17 256 927 39 2005 € m 742 201 402 10,113 2,439 7,129 85,232 16,864 1,656 517 706 778 18 253 801 5,363 158,526 133,214 33,433 74,875 191 2,531 28,531 112 1,757 1,410 937 93 - 4,744 - 29,329 62,580 240 1,967 17,611 133 1,599 1,092 1,227 140 32 3,756 5,091 148,614 124,797 294 1,693 497 543 5,578 8,605 1,307 9,912 294 1,693 497 1,152 3,533 7,169 1,248 8,417 Total liabilities, shareholders’ equity and minority interests 158,526 133,214 D Gleeson, Chairman. E Sheehy, Group Chief Executive. J O’Donnell, Group Finance Director.W M Kinsella, Secretary. 64 Balance sheet Allied Irish Banks, p.l.c. as at 31 December 2006 Assets Cash and balances at central banks Items in course of collection Trading portfolio financial assets Derivative financial instruments Loans and receivables to banks Loans and receivables to customers Financial investments available for sale Interests in associated undertakings Investments in Group undertakings Intangible assets Property, plant and equipment Other assets Current taxation Deferred taxation Prepayments and accrued income Assets classified as held for sale Total assets Liabilities Deposits by banks Customer accounts Trading portfolio financial liabilities Derivative financial instruments Debt securities in issue Current taxation Other liabilities Accruals and deferred income Retirement benefit liabilities Provisions for liabilities and commitments Subordinated liabilities and other capital instruments Total liabilities Shareholders’ equity Share capital Share premium account Other equity interests Reserves Profit and loss account Shareholders’ equity Notes 23 25 26 30 34 35 36 37 38 39 40 41 42 43 44 45 46 48 2006 € m 514 274 8,717 2,599 56,057 59,883 16,127 903 1,408 111 358 401 17 148 704 33 2005 € m 503 202 9,579 2,319 26,262 60,142 14,092 891 271 64 465 318 13 114 634 6 148,254 115,875 61,859 51,818 184 2,148 20,971 49 578 1,224 620 76 3,728 43,831 42,666 230 1,821 16,684 62 479 1,028 807 119 3,756 143,255 111,483 294 1,693 497 (129) 2,644 4,999 294 1,693 497 299 1,609 4,392 Total liabilities and shareholders’ equity 148,254 115,875 D Gleeson, Chairman. E Sheehy, Group Chief Executive. J O’Donnell, Group Finance Director.W M Kinsella, Secretary. 65 Statement of cash flows for the year ended 31 December 2006 Reconciliation of profit before taxation to net cash inflow from operating activities Profit before taxation(1) Adjustments for: Profit on disposal of businesses Construction contract income Profit on disposal of property Investment income Associated undertakings Provisions for impairment of loans and receivables Provisions for liabilities and commitments Amounts written off financial investments available for sale Increase in other provisions Depreciation, impairment and amortisation Interest on subordinated liabilities and other capital instruments Profit on disposal of financial investments available for sale Share based payment Amortisation of premiums and discounts Increase in long-term assurance business (Increase)/decrease in prepayments and accrued income Increase in accruals and deferred income Net increase in deposits by banks Net increase in customer accounts Net increase in loans and receivables to customers Net increase in loans and receivables to banks Net decrease/(increase) in trading portfolio financial assets/liabilities Net increase/(decrease) in derivative financial instruments Net decrease/(increase) in treasury bills and other eligible bills Net increase in items in course of collection Net increase in debt securities in issue Net increase in notes in circulation (Increase)/decrease in other assets Increase/(decrease) in other liabilities Effect of exchange translation and other adjustments Net cash inflow from operating assets and liabilities Net cash inflow from operating activities before taxation Taxation paid Net cash inflow from operating activities Investing activities (note a) Financing activities (note b) Increase in cash and cash equivalents Opening cash and cash equivalents Effect of exchange translation adjustments Notes 2006 € m Group 2005 € m Allied Irish Banks, p.l.c. 2005 € m 2006 € m 2,733 1,754 1,669 1,545 (191) (96) (365) (44) (167) 118 (15) 1 11 140 214 (11) 54 64 (6) (131) 306 2,615 4,649 12,329 (22,137) (32) 909 117 15 (121) 11,224 18 (322) 75 (213) 6,511 9,126 (481) 8,645 (1,907) 153 6,891 7,670 (206) (5) (45) (14) (41) (149) 115 20 8 32 130 132 (19) 32 64 (55) 83 332 2,374 8,019 11,414 (18,350) (30) (1,942) (447) (177) (29) 5,223 21 (1,467) 419 (116) 2,538 4,912 (351) 4,561 (262) 508 4,807 2,773 90 7,670 (178) - (406) (252) - 79 (12) - 8 80 182 2 38 59 - (75) 203 1,397 18,550 9,433 (13,836) (10,603) 610 46 - (71) 4,531 - (171) 61 (61) 8,489 9,886 (235) 9,651 (2,948) (886) 5,817 5,968 (171) 11,614 - (9) (12) (713) - 127 19 2 17 69 132 (15) 24 84 - 11 248 1,529 8,206 7,554 (14,309) (2,941) (1,868) (315) - (24) 5,960 - 286 (47) (175) 2,327 3,856 (200) 3,656 177 570 4,403 1,539 26 5,968 Closing cash and cash equivalents 53 14,355 66 Statement of cash flows (continued) for the year ended 31 December 2006 (a) Investing activities Net increase in financial investments available for sale Additions to property, plant and equipment Disposal of property, plant and equipment Additions to intangible assets Investment in associated undertakings Investments in Group undertakings Disposal of investment in subsidiaries and businesses Dividends received from associated undertakings Dividends received from subsidiaries companies 2006 € m (2,477) (144) 489 (87) - - 268 44 - Group 2005 € m Allied Irish Banks, p.l.c. 2005 € m 2006 € m (264) (100) 89 (36) (3) - 11 41 - (2,538) (113) 497 (75) - (1,156) 185 - 252 Cash flows from investing activities (1,907) (262) (2,948) (b) Financing activities Re-issue of treasury shares Purchase of own shares Redemption of subordinated liabilities Issue of subordinated liabilities Issue of perpetual preferred securities Interest paid on subordinated liabilities Equity dividends paid on ordinary shares Dividends on other equity interests Dividends paid to minority interests Cash flows from financing activities 48 - - - 1,008 (196) (587) (38) (82) 153 47 - (630) 1,813 - (90) (532) (38) (62) 508 48 (128) - - - (180) (588) (38) - (886) (460) (71) 36 - - (41) - - 713 177 47 - (630) 1,813 - (90) (532) (38) - 570 (1) Represents profit before taxation – continuing activities, as per the Consolidated income statement, adjusted for the discontinued activity pre-tax profit of € 118m in 2006 (2005: € 48m). Discontinued activities contributed to the increase in cash and cash equivalents as follows:- Operating activities: € Nil; Investing activities € 154m; and Financing activities € Nil. 67 Statement of recognised income and expense Foreign exchange translation differences Net change in cash flow hedges, net of tax Net change in fair value of available for sale securities, net of tax Net actuarial gains/(losses) in retirement benefit schemes, net of tax Net other gains and losses relating to the period Income and expense recognised Profit for the period Total recognised income and expense for the period Attributable to: Equity holders of the parent Minority interests in subsidiaries Total recognised income and expense for the 2006 € m (149) (283) (13) 200 (47) (292) 2,298 2,006 1,859 147 Group 2005 € m 301 (76) (6) (285) (72) (138) 1,433 1,295 1,191 104 Allied Irish Banks, p.l.c. 2005 € m 2006 € m 6 (261) (109) 150 - (214) 1,451 1,237 1,237 - 7 (81) (6) (216) - (296) 1,394 1,098 1,098 - period 2,006 1,295 1,237 1,098 68 l a t o T m € m € e v r e s e r n g i e r o F y c n e r r u c n o i t a l s n a r t m € e v r e s e r g n i g d e h w o l f h s a C e l a s r o f e l b a l i a v A s e i t i r u c e s m € s e v r e s e r e r a h S d e s a b m € s e v r e s e r s t n e m y a p e u n e v e R s e v r e s e r s e r a h s y r u s a e r T r e h t O y t i u q e s t s e r e t n i s e v r e s e r n o i t a u l a v e R l a t i p a C s e v r e s e r e r a h S m u i m e r p e r a h S l a t i p a c m € m € m € m € m € m € m € y t i u q e l ’ s r e d o h e r a h s n i s t n e m e v o m f o n o i t a i l i c n o c e r d e t a d i l o s n o C 2 7 4 , 6 ) 3 7 ( 4 5 2 6 3 1 ) 8 3 ( 6 1 ) 2 3 5 ( 3 4 3 , 1 ) 5 8 2 ( ) 6 ( 6 6 3 3 1 - - - - - - - 7 8 2 9 6 1 , 7 4 1 2 9 6 1 , 7 4 1 2 ) 8 3 ( ) 7 8 5 ( 0 3 5 8 1 , 2 0 0 2 - - - - - - - - - - - - ) 6 7 ( 8 7 1 8 7 1 - - - - - - - - - - ) 6 ( - - 0 3 1 0 3 1 - - - - - ) 6 2 5 ( ) 2 5 1 ( ) 3 8 2 ( ) 4 4 ( 8 7 8 7 7 - - - - - - 5 0 6 , 8 2 6 ) 5 0 1 ( - - - 6 8 4 1 - - - 6 1 - - - - 0 3 0 3 - - - 7 2 - - - - - 3 4 5 , 3 ) 6 8 6 ( 7 9 4 8 8 - ) 8 3 ( ) 2 3 5 ( 7 9 2 , 1 ) 5 8 2 ( - ) 6 ( ) 9 6 ( - - - - - - - 6 6 - - - - - - - - 0 1 9 , 3 ) 0 2 6 ( 7 9 4 0 1 9 , 3 ) 0 2 6 ( 7 9 4 3 ) 8 3 ( ) 7 8 5 ( 1 8 1 , 2 0 0 2 ) 7 4 ( 3 9 2 - 8 1 1 - - - - - - - 7 8 ) 1 4 ( - - - - - - - - - - - - - - ) 3 ( - - 5 8 5 8 - - - - - - ) 0 5 ( - - 5 3 7 5 3 3 0 , 6 ) 4 7 5 ( 7 9 4 2 1 7 6 4 - - - - - - - - - - - - - - - - - - - - - - - 3 9 6 , 1 4 9 2 8 5 7 3 9 6 , 1 4 9 2 8 5 7 3 9 6 , 1 4 9 2 4 - - - - - - - ) 5 3 2 ( - - - - - - - - - - - - - - - - - - 7 2 5 3 9 6 , 1 4 9 2 t i f e n e b t n e m e r i t e r n i d e s i n g o c e r s e s s o l l a i r a u t c A o t g n i t a l e r s n i a g / ) s e s s o l ( d e s i n g o c e r r e h t O s e m e h c s s t s e r e t n i y t i u q e r e h t o s e r a h s y r a n i d r o n o n o s d n e d i v i D s d n e d i v i D s t n e m y a p d e s a b e r a h S t n e r a p e h t f o s r e d o h l y t i u q e o t e l b a t u b i r t t a t i f o r P 5 0 0 2 y r a u n a J 1 t A 5 0 0 2 t i f e n e b t n e m e r i t e r n i d e s i n g o c e r s n i a g l a i r a u t c A s t s e r e t n i y t i u q e r e h t o s e r a h s y r a n i d r o n o n o s d n e d i v i D s d n e d i v i D s t n e m y a p d e s a b e r a h S o t g n i t a l e r s e s s o l d e s i n g o c e r r e h t O s e m e h c s s e r a h s n w o n i t n e m e v o m t e N d e u s s i - e r s e r a h s y r a n i d r O 6 0 0 2 r e b m e c e D 1 3 t A d o i r e p e h t s t n e m e v o m r e h t O s e r a h s n w o n i t n e m e v o m t e N d e u s s i - e r s e r a h s y r a n i d r O 5 0 0 2 r e b m e c e D 1 3 t A d o i r e p e h t t n e r a p e h t f o s r e d o h l y t i u q e o t e l b a t u b i r t t a t i f o r P 6 0 0 2 y r a u n a J 1 t A 6 0 0 2 69 l a t o T m € m € e v r e s e r n g i e r o F y c n e r r u c n o i t a l s n a r t m € e v r e s e r g n i g d e h w o l f h s a C e l a s r o f e l b a l i a v A s e i t i r u c e s m € s e v r e s e r e r a h S d e s a b m € s e v r e s e r s t n e m y a p e u n e v e R s e v r e s e r s e r a h s y r u s a e r T r e h t O y t i u q e s t s e r e t n i n o i t a u l a v e R e r a h S s e v r e s e r m u i m e r p e r a h S l a t i p a c m € m € m € m € m € m € . c . l . p , s k n a B h s i r I d e i l l A - y t i u q e l ’ s r e d o h e r a h s n i s t n e m e v o m f o n o i t a i l i c n o c e R 70 9 9 9 , 4 ) 3 1 ( ) 2 9 ( ) 7 5 ( 3 4 5 7 2 , 3 7 ) 8 3 ( ) 2 3 5 ( 4 9 3 , 1 ) 6 1 2 ( ) 1 8 ( 8 6 6 - - - - - 7 - - 2 9 3 , 4 ) 9 1 ( - - - - - - - ) 1 8 ( 9 6 1 2 9 3 , 4 ) 9 1 ( 9 6 1 4 8 7 , 3 ) 6 2 ( 0 5 2 8 5 ) 8 3 ( ) 8 8 5 ( 3 3 1 5 4 , 1 0 5 1 - 7 8 ) 4 6 3 ( ) 4 2 1 ( - - - - - 6 - - - - - - - - - - - - - - ) 1 6 2 ( ) 9 0 1 ( - - - - - ) 6 ( - - 2 5 2 5 - - - - - 6 - - - 7 - - - - 3 1 3 1 - - - 0 3 - - - - - 8 1 6 , 1 ) 6 8 6 ( 7 9 4 0 8 3 9 6 , 1 4 9 2 - ) 8 3 ( ) 2 3 5 ( 4 9 3 , 1 ) 6 1 2 ( 1 - 8 - - - - - - - 6 6 - - - - - - - - 5 3 2 , 2 ) 0 2 6 ( 7 9 4 - - - - - ) 2 ( - - 8 7 - - - - - - - - - - - - - - - - 3 9 6 , 1 4 9 2 5 3 2 , 2 ) 0 2 6 ( 7 9 4 8 7 3 9 6 , 1 4 9 2 3 ) 8 3 ( ) 8 8 5 ( 1 5 4 , 1 0 5 1 - 8 5 - 4 - - - - - - - 7 8 ) 8 2 1 ( ) 1 6 6 ( - - - - - - - - - 7 9 4 - - - - - - ) 8 5 ( - - 0 2 - - - - - - - - - - - - - - - - - - 3 9 6 , 1 4 9 2 t i f e n e b t n e m e r i t e r n i d e s i n g o c e r s e s s o l l a i r a u t c A o t g n i t a l e r s n i a g / ) s e s s o l ( d e s i n g o c e r r e h t O s e m e h c s s t s e r e t n i y t i u q e r e h t o s e r a h s y r a n i d r o n o n o s d n e d i v i D s d n e d i v i D s t n e m y a p d e s a b e r a h S t n e r a p e h t f o s r e d o h l y t i u q e o t e l b a t u b i r t t a t i f o r P 5 0 0 2 y r a u n a J 1 t A 5 0 0 2 s t s e r e t n i y t i u q e r e h t o s e r a h s y r a n i d r o n o n o s d n e d i v i D s d n e d i v i D s t n e m y a p d e s a b e r a h S t n e r a p e h t f o s r e d o h l y t i u q e o t e l b a t u b i r t t a t i f o r P 6 0 0 2 y r a u n a J 1 t A 6 0 0 2 s e r a h s n w o n i t n e m e v o m t e N d e u s s i - e r s e r a h s y r a n i d r O 5 0 0 2 r e b m e c e D 1 3 t A d o i r e p e h t t i f e n e b t n e m e r i t e r n i d e s i n g o c e r s n i a g l a i r a u t c A o t g n i t a l e r s n i a g / ) s e s s o l ( d e s i n g o c e r r e h t O s e m e h c s s e r a h s n w o n i t n e m e v o m t e N d e u s s i - e r s e r a h s y r a n i d r O 6 0 0 2 r e b m e c e D 1 3 t A d o i r e p e h t s t n e m e v o m r e h t O Notes to the accounts 1 Disposal of Ark Life Assurance Company Limited (“Ark Life”). Acquisition of an interest of 24.99% in Hibernian Life Holdings Limited On 30 January 2006, the previously announced venture with Aviva Group p.l.c. for the manufacture and distribution of life and pensions products in the Republic of Ireland was completed.The transaction brought together Hibernian Life & Pensions Limited (“HLP”) and Ark Life under a holding company Hibernian Life Holdings Limited of which AIB owns 24.99%. AIB has entered into an exclusive agreement to distribute the life and pensions products of the venture. Under IFRS 5, “Non-current assets held for sale and discontinued operations”, the income and expenses for 2005 and for the period up to 30 January 2006, the date of disposal of Ark Life, of the operations deemed to be disposed of have been reported net of taxation as a discontinued operation below profit after taxation. The assets and liabilities of Ark Life (note 33) as at 31 December 2005 were classified as held for sale, separate from other assets and liabilities on the balance sheet. The transaction is accounted for as an exchange of 75.01% of Ark Life for 24.99% of HLP and a cash payment of € 165m. Under this approach, the 24.99% of Ark Life that is owned by AIB, both directly before the transaction and indirectly thereafter, is treated as being owned throughout the transaction. The transaction gave rise to a profit before and after taxation of € 138m of which € 26m (relating to the transfer by Ark Life of the management contracts of the Ark funds from AIB to Aviva) is treated as a profit on disposal of business and € 112m as a profit on disposal of a discontinued operation. The profit after taxation for Ark Life for the period to date of disposal of € 4m (2005: € 46m) is included within discontinued operations. The contribution of the venture for the 11 months ended December 2006 is included in the income statement within share of results of associated undertakings.The carrying value of the investment is shown in the balance sheet within interests in associated undertakings. Accounting for the acquisition of the 24.99% interest in Hibernian Life and Pensions Limited The Group’s share of the assets and liabilities of HLP as at 30 January 2006 has been recorded at fair value in accordance with the accounting policies of the Group.The fair value of the consideration given represents the value of the 75.01% of Ark Life that is deemed to be transferred to Hibernian Life Holdings Limited. Acquisition accounting has been adopted in respect of the transaction and the acquisition of the 24.99% interest in HLP comprised: Book value of assets acquired Adjustments Intangible assets recognised Net assets Group’s share of net assets - 24.99% Goodwill arising on the acquisition of HLP Fair value of consideration given € m 520 146 67 733 183 12 195 The adjustments reflect bringing HLP’s accounting policies in line with AIB’s, primarily in respect of accounting for insurance contracts. AIB accounts for insurance contracts using the embedded value basis and the adjustments of € 146m primarily reflect the recognition of embedded value on the insurance contracts in force on HLP’s books, offset by other adjustments to bring HLP’s accounting policies in line with AIB’s and fair value adjustments. The intangible assets recognised relate to the value of management contracts not recognised within HLP’s books. Goodwill arising has been capitalised on the balance sheet within the caption “Interests in associated undertakings”. The Group’s share of profits of Hibernian Life Holdings Limited is set out in Note 33. 71 AIB Bank ROI € m Capital Markets € m AIB Bank UK € m Poland € m Group € m 490 464 954 425 4 9 438 516 5 1 2 508 2 - - 79 589 - 593 154 747 332 - 11 343 404 26 - - 378 - 1 - - 379 - 33,040 5 54,093 70,067 71,656 40,538 2,629 24 22,117 - 24,580 13,624 14,551 22,334 1,476 15 236 302 538 290 21 19 330 208 9 (2) - 201 6 - - - 207 - 4,573 3 7,195 6,614 6,941 5,826 374 24 99 (27) 72 182 11 10 203 (131) - (10) - (121) 141 358 96 - 474 - 202 1,516 6,458 31 9,249 1,029 80 64 2006 Total € m 2,999 1,327 4,326 2,174 53 87 2,314 2,012 118 (15) 1 1,908 167 365 96 79 2,615 116 120,015 1,792 158,526 136,839 148,614 123,034 8,108 231 Notes to the accounts 2 Segmental information Operations by business segments(1) Net interest income Other income Total operating income Administrative expenses Amortisation of intangible assets and goodwill Depreciation of property, plant and equipment Total operating expenses 1,581 434 2,015 945 17 38 1,000 Operating profit/(loss) before provisions 1,015 Provisions for impairment of loans and receivables Provisions for liabilities and commitments Amounts (written back)/written off financial investments available for sale Operating profit/(loss) Associated undertakings Profit on disposal of property Construction contract income Profit on disposal of businesses Profit before taxation - continuing operations Discontinued operation - net of taxation Balance sheet Total loans Interests in associated undertakings Total assets Total deposits Total liabilities(2) Total risk weighted assets Ordinary shareholders’ equity(2) Capital expenditure 78 (4) (1) 942 18 6 - - 966 116 60,083 268 66,200 46,503 46,217 53,307 3,549 104 72 2 Segmental information (continued) Operations by business segments(1) Net interest income Other income Total operating income Administrative expenses Amortisation/impairment of intangible assets and goodwill Depreciation of property, plant and equipment Total operating expenses Operating profit/(loss) before provisions Provisions for impairment of loans and receivables Provisions for liabilities and commitments Amounts written off financial investments available for sale Operating profit/(loss) Associated undertakings Profit on disposal of property Construction contract income Profit on disposal of businesses Profit before taxation – continuing operations Discontinued operation - net of taxation Balance sheet Total loans Interests in associated undertakings Total assets Total deposits Total liabilities(2) Total risk weighted assets Ordinary shareholders’ equity(2) Capital expenditure AIB Bank ROI € m Capital Markets € m AIB Bank UK € m Poland € m Group € m 1,314 376 1,690 818 16 33 867 823 45 10 - 768 (1) 12 - - 779 46 45,523 6 55,224 34,172 39,137 39,073 2,564 71 435 407 842 383 7 10 400 442 34 4 8 396 2 - - 5 403 - 516 148 664 313 1 9 323 341 21 - - 320 - 2 - - 322 - 23,794 14 44,371 58,038 59,014 38,974 2,558 13 18,346 - 20,031 10,958 11,888 18,335 1,203 16 205 222 427 236 21 23 280 147 14 1 - 132 - - - - 132 - 4,487 19 7,813 6,229 6,658 4,640 305 19 60 (36) 24 131 2 8 141 (117) 1 5 - (123) 148 - 45 - 70 - 211 1,617 5,775 123 8,100 634 42 17 2005 Total € m 2,530 1,117 3,647 1,881 47 83 2,011 1,636 115 20 8 1,493 149 14 45 5 1,706 46 92,361 1,656 133,214 109,520 124,797 101,656 6,672 136 73 Notes to the accounts 2 Segmental information (continued) Republic of Ireland United Kingdom Poland € m € m € m United States of America € m Rest of the world € m Operations by geographical segments(3) Net interest income Other income Total operating income Administrative expenses Amortisation of intangible assets and goodwill Depreciation of property, plant and equipment Total operating expenses Operating profit before provisions Provisions for impairment of loans and receivables Provisions for liabilities and commitments Amounts written off financial investments available for sale Operating profit Associated undertakings Profit on disposal of property Construction contract income Profit on disposal of businesses Profit before taxation – continuing operations Discontinued operation - net of taxation Balance sheet Total loans Interests in associated undertakings Total assets Total deposits Total liabilities(2) Ordinary shareholders’ equity(2) Capital expenditure 1,899 665 2,564 1,401 32 54 1,487 1,077 70 (14) 1 1,020 20 364 96 77 1,577 116 80,853 273 109,272 96,773 104,609 5,164 192 769 240 1,009 425 1 12 438 571 41 1 - 529 - 1 - 1 531 - 29,880 - 33,908 29,020 31,932 2,022 15 264 351 615 297 20 20 337 278 9 (2) - 271 6 - - - 277 - 5,315 3 9,109 7,072 7,812 398 24 54 61 115 42 - 1 43 72 - - - 72 141 - - 1 214 - 3,315 1,516 5,578 3,920 4,202 478 - 13 10 23 9 - - 9 14 (2) - - 16 - - - - 16 - 652 - 659 54 59 46 - 2006 Total € m 2,999 1,327 4,326 2,174 53 87 2,314 2,012 118 (15) 1 1,908 167 365 96 79 2,615 116 120,015 1,792 158,526 136,839 148,614 8,108 231 74 2 Segmental information (continued) Operations by geographical segments(3) Net interest income Other income Total operating income Administrative expenses Amortisation/impairment of intangible assets and goodwill Depreciation of property, plant and equipment Total operating expenses Operating profit before provisions Provisions for impairment of loans and receivables Provisions for liabilities and commitments Amounts written off financial investments available for sale Operating profit Associated undertakings Profit on disposal of property Construction contract income Profit on disposal of businesses Profit before taxation – continuing operations Discontinued operation - net of taxation Balance sheet Total loans Interests in associated undertakings Total assets Total deposits Total liabilities(2) Ordinary shareholders’ equity(2) Capital expenditure Republic of Ireland € m 1,564 537 2,101 1,169 23 47 1,239 862 46 18 6 792 1 12 45 - 850 46 58,831 20 90,731 77,971 90,653 4,039 100 United Kingdom € m Poland € m United States of America € m Rest of the world € m 689 252 941 401 1 11 413 528 53 1 - 474 - 2 - 1 477 - 24,888 - 28,411 21,291 23,046 1,810 16 225 251 476 245 21 24 290 186 14 1 - 171 - - - - 171 - 4,487 19 7,815 6,229 6,730 320 19 45 68 113 59 2 1 62 51 (1) - 2 50 148 - - 4 202 - 3,863 1,617 5,962 4,021 4,359 477 1 7 9 16 7 - - 7 9 3 - - 6 - - - - 6 - 292 - 295 8 9 26 - 2005 Total € m 2,530 1,117 3,647 1,881 47 83 2,011 1,636 115 20 8 1,493 149 14 45 5 1,706 46 92,361 1,656 133,214 109,520 124,797 6,672 136 (1)The business segment information is based on management accounts information.Income on capital is allocated to the divisions on the basis of the capital required to support the level of risk weighted assets.Interest income earned on capital not allocated to divisions is reported in Group. (2)The fungible nature of liabilities within the banking industry inevitably leads to allocations of liabilities to segments,some of which are necessarily subjective. Accordingly,the directors believe that the analysis of total assets is more meaningful than the analysis of ordinary shareholders’ equity or liabilities. (3)The geographical distribution of profit before taxation is based primarily on the location of the office recording the transaction. 75 Notes to the accounts 2 Segmental information (continued) Gross revenue by business segment AIB Bank ROI € m Capital Markets € m AIB Bank UK € m External customers Inter-segment revenue Total gross revenue External customers Inter-segment revenue Total gross revenue 3,080 1,335 4,415 2,232 903 3,135 2,764 2,057 4,821 2,260 1,260 3,520 1,497 616 2,113 1,246 333 1,579 Poland Group Eliminations € m 641 1 642 700 8 708 € m 974 80 1,054 39 286 325 € m - (4,089) (4,089) - (2,790) (2,790) 2006 Total € m 8,956 - 8,956 2005 6,477 - 6,477 Gross revenue from external customers equates to: interest and similar income; dividend income; fee and commission income; net trading income; other operating income; profit on disposal of property; construction contract income; and profit on disposal of businesses. The amounts relate to continuing operations only. 3 Interest and similar income Interest on loans and receivables to banks Interest on loans and receivables to customers Interest on trading portfolio financial assets Interest on financial investments available for sale Interest income in 2006 includes € 69m removed from equity in respect of cash flow hedges. 4 Interest expense and similar charges Interest on deposits by banks Interest on customer accounts Interest on debt securities in issue Interest on subordinated liabilities and other capital instruments Interest expense in 2006 includes € 18m removed from equity in respect of cash flow hedges. 5 Dividend income The dividend income relates to income from equity shares held as financial investments available for sale. 6 Net trading income Foreign exchange contracts Profits less losses from trading portfolio financial assets Interest rate contracts Equity index contracts 2006 € m 307 5,444 380 797 6,928 2006 € m 1,163 1,597 955 214 3,929 2006 € m 101 60 4 8 173 2005 € m 167 4,032 305 647 5,151 2005 € m 775 1,169 545 132 2,621 2005 € m 59 84 (32) 1 112 76 7 Other operating income (Loss)/profit on disposal of available for sale debt securities Profit on disposal of available for sale equity shares Miscellaneous operating income 8 Administrative expenses Personnel expenses Wages & salaries Share-based payment schemes (note 9) Retirement benefits (note 10) Social security costs Other personnel expenses General and administrative expenses 2006 € m (4) 15 46 57 2006 € m 1,074 57 144 119 108 1,502 672 2,174 2005 € m 17 2 53 72 2005 € m 948 34 133 104 79 1,298 583 1,881 9 Share-based payment schemes The Group operates a number of share-based compensation schemes as outlined below on terms approved by the shareholders. The requirements of IFRS 2 “Share-based payment” have been applied to all equity share based payments granted after 7 November 2002 that had not vested by 1 January 2005. The share-based payment schemes which AIB Group operates in respect of ordinary shares in Allied Irish Banks, p.l.c., are: (i) AIB Share Option Schemes (ii) Employee Profit Sharing Schemes (iii) AIB Save As You Earn (SAYE) Share Option Scheme UK (iv) Long Term Incentive Plans (v) AIB Group Performance Share Plan 2005 BZWBK operates a Long Term Incentive scheme with grants of shares in BZWBK and this scheme is described under Long Term Incentive Plans below. (i) AIB Share Option Schemes The “AIB Group Share Option Scheme” (“the 2000 Scheme”) was approved by shareholders at the 2000 AGM and replaced the Executive Share Option Scheme (“the 1986 Scheme”) introduced some years previously. The former scheme has been replaced by the AIB Group Performance Share Plan 2005 (see below), to the extent that further grants of options over the Company’s shares will not be made, except in exceptional circumstances. Options are outstanding under both of the aforementioned option schemes, which operated as follows: Options were granted at the market price, being the middle market quotation of the Company’s shares on the Irish Stock Exchange on the day preceding the date on which the option is granted.The exercise of options granted under the 1986 Scheme is conditional on the achievement of earnings per share (“EPS”) growth of at least 2% per annum, compounded, above the increase in the Irish Consumer Price Index (“CPI”) over a period of not less than three and not more than five years from date of grant.The exercise of options granted under the 2000 scheme is conditional on the achievement of EPS growth of at least 5% per annum, compounded, above the increase in the CPI over a period of not less than three and not more than five years from date of grant. Options may not be transferred or assigned and may be settled through the issue/re-issue of shares. Options granted under the 1986 Scheme may be exercised only between the third and seventh anniversaries of their grant; options granted under the 2000 Scheme may be exercised only between the third and tenth anniversaries of their grant. 77 Notes to the accounts 9 Share-based payment schemes (continued) The following table summarises the share option scheme activity over each of the two years ended 31 December 2006 and 2005. Outstanding at 1 January Granted Exercised Forfeited Outstanding at 31 December Exercisable at 31 December Number of options ‘000 18,627.8 - (4,346.1) (239.2) 14,042.5 6,599.3 2006 Weighted average exercise price € 2005 Weighted average exercise price € Number of options ‘000 12.47 21,025.2 - 1,459.0 11.07 13.05 12.90 12.03 (3,487.9) (368.5) 18,627.8 3,938.4 11.90 16.21 10.55 12.74 12.47 11.71 The following tables present the number of options outstanding at 31 December 2006 and 2005. Range of exercise price €10.02 - €11.98 €12.60 - €13.90 €16.20 - €18.63 Range of exercise price €10.02 - €11.98 €12.60 - €13.90 €16.20 - €18.63 Weighted average remaining contractual life in years Number of options outstanding ‘000 2.92 6.41 8.34 4,168.3 8,464.2 1,410.0 Weighted average remaining contractual life in years Number of options outstanding ‘000 3.34 7.39 9.32 7,910.3 9,280.5 1,437.0 31 December 2006 Weighted average exercise price € 11.29 13.14 16.21 31 December 2005 Weighted average exercise price € 11.00 13.15 16.21 The binomial option pricing model has been used in estimating the value of the options granted during 2005. The expected volatility is based on an analysis of historical volatility over the ten years prior to the grant of the awards. The following table details the assumptions used, and the resulting fair values provided by the option pricing model in respect of options being expensed in accordance with IFRS 2. Number of options granted in the year (‘000) Exercise price Vesting period (years) Expected volatility Options life (years) Risk free rate Expected dividends expressed as a dividend yield Fair value per option 2005 1,459.0 €16.21 3 28.1% 10 3.37% 3.8% €4.19 2004 3,223.5 €12.60 3 30.5% 10 4.25% 3.8% €3.24 78 9 Share-based payment schemes (continued) (ii) Employee Profit Sharing Schemes The Company operates the “AIB Approved Employees’ Profit Sharing Scheme 1998” (“the Scheme”) on terms approved by the shareholders at the 1998 Annual General Meeting. All employees, including executive directors of the Company and certain subsidiaries are eligible to participate, subject to minimum service periods (i.e., a continuous employment for at least one year prior to the last day of the relevant accounting period).The Directors, at their discretion, may set aside each year, for distribution under the Scheme, a sum not exceeding 5% of eligible profits of participating companies. Eligible employees in the Republic of Ireland may elect to receive their profit sharing allocations either in shares or in cash. Such shares are held by Trustees for a minimum period of two years and are required to be held for a total period of three years for the employees to obtain the maximum tax benefit. Such employees may elect to forego an amount of salary, subject to certain limitations, towards the acquisition of additional shares.The maximum market value of shares that may be appropriated to any employee in a year may not exceed € 12,700. During 2006, 1,024,309 ordinary shares, with a value of € 20.1m, were distributed to employees participating in the Profit Sharing Scheme in the Republic of Ireland. In addition, 674,966 ordinary shares, with a value of € 13.2 million, were purchased by employees through the salary foregone facility. In December 2002 a Share Ownership Plan (“the Plan”) was launched in the UK to replace the profit sharing scheme that previously operated for UK based employees.The Plan, which was approved by shareholders at the 2002 Annual General Meeting, provides for the acquisition by eligible employees of shares in a number of categories: Partnership Shares, in which each eligible employee may invest up to Stg £ 1,500 per annum from salary; Free Shares, involving the award by the Company of shares up to the value of Stg £ 3,000 per annum per employee, and Dividend Shares, which may be acquired by each eligible employee, by re- investing dividends of up to Stg £ 1,500 per annum. To participate in the Plan, eligible employees must have been in the continuous employment of the Group from the 1st July prior to the grant date. During 2006, a total of 292,123 ordinary shares with a value of € 5.7m (2005: 274,251 ordinary shares with a value of € 4.3m) were awarded under the Free Share category. Free Shares are forfeited on a sliding scale should the employee leave the service of the Group within three years of grant date. The market value was determined as the mid-market price of the Company’s shares on the Irish Stock Exchange daily official list on the relevant date. The following table summarises activity in the Free Share category during 2006 and 2005. Outstanding at 1 January Granted Forfeited Outstanding at 31 December 2006 Number of shares ‘000 916.6 292.1 (17.7) 1,191.0 2005 Number of shares ‘000 661.5 274.2 (19.1) 916.6 (iii) AIB Save As You Earn (SAYE) Share Option Scheme UK The Company operates a “Save As You Earn Share Option Scheme’ (“the Scheme”) in the UK. The Scheme is open to all employees of AIB Group in the UK who have completed six months continuous service at the date of grant. Under the Scheme, employees may opt to save fixed amounts on a regular basis, over a three-year period, subject to a maximum monthly saving of Stg £ 250 per employee. At the end of the three-year period, (a) a tax-free bonus equal to a multiple of the participants monthly contribution is added in line with rates approved by the Inland Revenue (1.9 times and 1.4 times) for contracts entered into in 2005 and 2006 respectively; and (b) the participant has 6 months in which to exercise the option and purchase ordinary shares at the option price (fixed price being the average price per AIB ordinary share, on the London Stock Exchange on the day prior to grant date, less 20% discount); or the participant may withdraw the savings and bonus amount. 79 Notes to the accounts 9 Share-based payment schemes (continued) The following table summarises option activity during 2006 and 2005. 2006 Weighted of average exercise price € Number options ‘000 2005 Weighted of average exercise price € Number options ‘000 Outstanding at 1 January Granted Forfeited Exercised Outstanding at 31 December Exercisable at 31 December 1,434.7 189.1 (72.9) (1.5) 1,549.4 - 10.17 15.99 10.60 10.79 10.60 - 1,186.5 299.2 (51.0) - 1,434.7 - 9.57 13.02 13.02 - 10.17 - The binomial option pricing model has been used in estimating the value of the options granted. The expected volatility is based on historical volatility over the three and a half years prior to the grant of the SAYE options. The following table details the assumptions used, and the resulting fair values provided by the option pricing model in respect of options being expensed in accordance with IFRS 2. Share price at grant date Exercise price Vesting period (years) Expected volatility Options life (years) Expected life (years) Risk-free rate Expected dividends expressed as a dividend yield Fair value per option 2006 €19.99 €15.99 3 20.0% 3.5 3 3.38% 3.8% €4.06 2005 €16.28 €13.02 3 27.3% 3.5 3 2.48% 3.8% €3.99 2004 €11.96 €9.57 3 30.5% 3.5 3 3.40% 3.8% €3.26 (iv) Long Term Incentive Plans Under the terms of the ‘AIB Group Long Term Incentive Plan’ (“LTIP”), approved by shareholders at the 2000 Annual General Meeting, conditional grants of awards of 465,300 ordinary shares in aggregate were outstanding to 101 employees at 31 December 2006.These awards will vest in full in the award-holders only if (a) the growth in the Company’s EPS, as defined in the Rules of the Plan, in any three consecutive years within the five years following the grant is not less than the growth in the Irish CPI plus 5% per annum, compounded, over the same three year period; and (b) the growth in the Company’s core EPS, as defined in the Rules of the Plan, over the three year period during which the criterion at (a) is satisfied, is such as to position the Company in the top 20% of the FTSE Eurofirst 300 Banks Index. Partial vesting, on a reducing scale, will occur if the growth in the Company’s core EPS positions the Company outside the top 20% of that Index but still within the top 45%, subject to the criterion at (a) being satisfied.Vested shares must be held until normal retirement date, except that award-holders may dispose of shares sufficient to meet the income tax liability arising on vesting. The conditional grants of awards under the LTIP have not vested. The conditional grants of awards made in 2001 lapsed during 2006 having failed to meet the EPS performance conditions. The LTIP was replaced by the AIB Group Performance Share Plan 2005. 80 9 Share-based payment schemes (continued) BZWBK Long Term Incentive Scheme During 2006, BZWBK introduced a “Long Term Incentive Scheme” (“the Scheme”) on terms approved by its shareholders.The scheme is designed to provide market-competitive incentives for senior executives, in the context of BZWBK’s long-term performance against stretching growth targets over the three financial years 2006 - 2008. Conditional awards of shares were made to employees with vesting to take place on the date of the AGM approving financial statements for the last year of the scheme. 25% of shares will vest if EPS performance over the three year period exceeds the growth in the Polish Consumer Price Index (CPI) plus 5% per annum with up to 100% vesting on a straight-line basis if compounded EPS performance over the three year period exceeds CPI plus 12% p.a. There is no re-test and the grant will expire after 3 years. During 2006, conditional awards of 132,476 ordinary shares of BZWBK were granted to no more than 100 individuals. The following table summarises option activity during 2006: Outstanding at 1 January Granted Forfeited Outstanding at 31 December Number of shares - 132,476 (4,253) 128,223 2006 Weighted average exercise price € - 2.57 2.57 2.57 The Black Scholes model has been used in estimating the value of the grant. The expected volatility is based on an analysis of historical volatility based on approximately 7 months preceeding the grant date. The following table details the assumptions used and the resulting fair values provided by the option pricing model. Number of BZWBK shares granted in the year Exercise price Vesting period (years) Expected volatility Risk-free rate Expected dividends expressed as a dividend yield Fair value per option 2006 132,476 €2.57 3 37.38% 4.6% 2.25% €38.65 (v) AIB Group Performance Share Plan 2005 The “AIB Group Performance Share Plan 2005” was approved by the shareholders at the 2005 AGM.This Plan is designed to provide market-competitive incentives for senior executives, in the context of the Company’s long-term performance against stretching growth targets and the overall return to shareholders. Conditional grants of awards of ordinary shares are made to employees. These awards vest in full on the third anniversary of the grant if the performance conditions at (a) and (b) below are met: (a) 50% of awards will vest if the growth in the Company’s EPS over the three-year period beginning with the year of grant is not less than the increase in the Irish Consumer Price Index (“CPI”) plus 10% per annum, compounded over that period; and (b) 50% of awards will vest if: (1) in respect of awards granted in 2005, the Company’s Total Shareholder Return (“TSR”) (the calculation of which is set out in the Rules of the Plan) over the period referred to at (a) above relative to a peer group of at least 15 banks (listed in the Rules of the Plan) is such as to position AIB not below the 80th percentile; (2) in respect of awards granted in 2006 and subsequent years, the Company’s TSR over the period referred to at (a) above relative to the banks in the FTSE Eurofirst 300 Banks Index (listed in the Rules of the Plan) is such as to position AIB not below the 80th percentile. 81 Notes to the accounts 9 Share-based payment schemes (continued) For performance below these levels, the following vesting will apply: - 10% of awards will vest if the growth in the Company’s EPS over the three-year period beginning with the year of grant is not less than the increase in the CPI plus 5% per annum, compounded over that period; - 10% of awards will also vest if the Company’s TSR over the period relative to the peer group (at (b)(1) in respect of awards granted in 2005, and at (b)(2) in respect of awards granted in 2006 or subsequently) is not less than the median TSR of that peer group; - Between these levels of performance (i.e., EPS growth over the period of CPI plus more than 5% and up to 10% p.a., compounded, and TSR between the median and the 80th percentile) awards will vest on a graduated scale; - No awards will vest if performance is below the minimum levels stated above. At 31 December 2006, conditional grants of awards of 1,597,781 ordinary shares in aggregate were outstanding to 150 employees. The expense arising from the conditional grants of awards is determined as follows: - the market value of the shares at the date of grant, adjusted to take into account the expected vesting, is used to determine the value of the award subject to the EPS vesting criteria; and - the expected vesting of the shares is used to determine the value of the award subject to the Total Shareholder Return vesting criteria. The following table summarises share activity during 2006 and 2005. Outstanding at 1 January Granted Forfeited Outstanding at 31 December 2006 Number of shares ‘000 290.9 1,315.7 (8.8) 1,597.8 2005 Number of shares ‘000 - 290.9 - 290.9 The fair value of the shares are € 19.11 and € 17.65 for 2006 and 2005 respectively. Income statement expense The total expense arising from share-based payment transactions amounted to € 57m in the year ended 31 December 2006 (2005: € 34m). Limitations on share-based payment schemes The company complies with guidelines issued by the Irish Association of Investment Managers in relation to shares issued under the above schemes. 10 Retirement benefits The Group operates a number of pension and retirement benefit plans for employees, the majority of which are funded. These include defined benefit and defined contribution plans. (i) Defined benefit schemes The Group operates a number of defined benefit schemes, the most significant being the AIB Group Irish Pension Scheme (“the Irish scheme”) and the AIB Group UK Pension Scheme (“the UK scheme”). Approximately 35 per cent of staff in the Republic of Ireland are members of the Irish scheme while 46 per cent of staff in the UK are members of the UK scheme. The defined benefit schemes in Ireland and the UK were closed to new members from December 1997. Retirement benefits for the defined benefit schemes are calculated by reference to service and pensionable salary at normal retirement date. Independent actuarial valuations for the main Irish and UK schemes are carried out on a triennial basis. The last such valuations were carried out on 30 June 2006 using the Attained Age Method. The schemes, are funded and a contribution rate of 28.6% (previously 26%) has been set for the Irish Scheme with effect from 1 January 2007. A contribution rate of 30.8% of salaries together with annual payments of £17m from 1 January 2007 to 31 December 2011 increasing to £29m per annum for five years thereafter (previously 44.6%) have been set for the UK scheme. During 2006, the Group contributed a further £52m to the UK scheme in addition to the agreed contribution rate, towards the current deficit. The Group has agreed with the Trustees of the Irish scheme that it will aim to reduce the deficit over 17 years (UK scheme: 10 years). The total contribution to the defined benefit pension schemes in 2007 is estimated to be € 139m approximately. The actuarial valuations are available for inspection to the members of the schemes. 82 10 Retirement benefits (continued) The following table summarises the financial assumptions adopted in the preparation of these accounts in respect of the main schemes. The assumptions, including the expected long-term rate of return on assets, have been set based upon the advice of the Group’s actuary. Financial assumptions Irish scheme Rate of increase in salaries Rate of increase of pensions in payment Expected return on plan assets Discount rate Inflation assumptions UK scheme Rate of increase in salaries Rate of increase of pensions in payment Expected return on plan assets Discount rate Inflation assumptions Other schemes Rate of increase in salaries Rate of increase of pensions in payment Expected return on plan assets Discount rate Inflation assumptions *4.75% including salary scale improvements. as at 31 December 2005 % 2006 % 4.75 2.25 6.35 4.70 2.25 4.00* 2.75 6.34 5.00 2.50 4.00* 2.25 6.46 4.30 2.25 4.00* 2.75 6.57 4.75 2.50 3.0 - 4.75 0.0 - 3.0 5.9 - 6.7 4.5 - 5.5 2.25 - 2.75 4.0 - 4.0 0.0 - 2.75 6.2 - 6.9 4.30 - 5.75 2.25 - 2.75 Mortality assumptions An actuarial review was carried out at June 2006 into the mortality experience of the Group’s Irish and UK schemes.This review concluded that the mortality assumptions set out below include sufficient allowance for future improvements in mortality rates. The current life expectancies underlying the value of the scheme liabilities for the Irish and UK schemes are the following: Retiring today age 63 Males Females Retiring in 10 years at age 63 Males Females as at 31 December 2006 UK scheme Years Irish scheme Years 21.7 24.6 23.9 26.9 23.1 26.0 25.0 27.8 Sensitivity analysis for principal assumptions used to measure scheme liabilities There are inherent uncertainties surrounding the financial assumptions adopted in calculating the actuarial valuation of the AIB Group Pension Schemes. Set out in the table below is a sensitivity analysis for the key assumptions for the AIB Group Irish and UK pension schemes. Note that the change in assumptions are independent of each other i.e. the effect of the reflected change in the discount rate assumes that there has been no change in the rate of mortality assumption and vice versa. Assumption Change in assumption Impact on scheme liabilities Inflation Salary growth Discount rate Rate of mortality Increase by 0.25% Increase by 0.25% Increase by 0.25% Increase life expectancy by 1 year Irish scheme Increase by 3.2% Increase by 2.1% Decrease by 5.7% Increase by 2.6% UK scheme Increase by 3.8% Increase by 2.0% Decrease by 5.9% Increase by 2.5% 83 Notes to the accounts 10 Retirement benefits (continued) The following table sets out on a combined basis for all schemes, the fair value of the assets held by the schemes together with the long-term rate of return expected for each class of asset. as at 31 December 2006 as at 31 December 2005 Equities Bonds Property Cash/other Total market value of assets Actuarial value of liabilities of funded schemes Deficit in the funded schemes Unfunded schemes Net pension deficit Long term rate of return expected % 7.1 4.1 6.0 4.0 6.4 Value € m 2,602 478 348 269 Plan assets % 70 13 10 7 3,697 100 (4,551) (854) (83) (937) Long term rate of return expected % 7.3 3.6 6.3 2.6 6.5 Plan assets % 72 15 9 4 100 Value € m 2,267 463 287 118 3,135 (4,272) (1,137) (90) (1,227) At 31 December 2006, the pension scheme assets included AIB shares amounting to € 76m (31 December 2005: € 64m). Included in the actuarial value of the liabilities is an amount in respect of commitments to pay annual pensions amounting to € 111,647 in aggregate to a number of former directors. The following table sets out the components of the defined benefit cost for each of the two years ended 31 December 2006 and 2005. Included in administrative expenses: Current service cost Past service cost Settlements and curtailments Expected return on pension scheme assets Interest on pension scheme liabilities Cost of providing defined retirement benefits The actual return on plan assets during the year ended 31 December 2006 was € 439m (2005: € 553m). Movement in defined benefit obligation during the year Defined benefit obligation at beginning of year Current service cost Past service cost Interest cost Actuarial losses (net) Benefits paid Curtailments and settlements Translation adjustment on non-euro schemes Defined benefit obligation at end of year 84 2006 € m 132 7 - (205) 191 125 2006 € m 4,362 132 7 191 7 (89) - 24 4,634 2005 € m 103 14 (1) (179) 171 108 2005 € m 3,414 103 14 171 718 (84) (1) 27 4,362 10 Retirement benefits (continued) Movement in the fair value of plan assets during the year Fair value of plan assets at beginning of year Expected return Actuarial gains and losses Contributions by employer Benefits paid Translation adjustment on non-euro schemes Fair value of plan assets at end of year Analysis of the amount recognised in the statement of recognised income and expense Actual return less expected return on pension scheme assets Experience gains and losses on scheme liabilities Changes in demographic and financial assumptions Actuarial gain/(loss) recognised Deferred tax Recognised in the statement of recognised income and expense(1) (2) (1) Of which € 150m (2005: € 216m) was recognised in the parent company. (2) SORIE total includes € 8m (2005: € Nil) in respect of associated undertakings. History of experience gains and losses Difference between expected and actual return on scheme assets: Amount Percentage of scheme assets Experience gains and losses on scheme liabilities: Amount Percentage of scheme liabilities Total gross amount recognised in SORIE (1): Amount Percentage of scheme liabilities (1) Statement of recognised income and expense Defined benefit pension plans Funded defined benefit obligation Plan assets Deficit within funded plans 2006 € m 234 6% (121) 2% 227 5% 2006 € m 4,551 3,697 854 2005 € m 374 12% (62) 1% (344) 8% 2005 € m 4,272 3,135 1,137 2004 € m 99 4% (150) 4% (230) 7% 2004 € m 3,356 2,528 828 2006 € m 3,135 205 234 193 (89) 19 3,697 2006 € m 234 (121) 114 227 (35) 192 2003 € m 93 4% 97 3% (67) 2% 2003 € m 2,855 2,225 630 2005 € m 2,528 179 374 121 (84) 17 3,135 2005 € m 374 (62) (656) (344) 59 (285) 2002 € m (862) 40% (18) 1% (1,003) 35% 2002 € m 2,879 2,169 710 (ii) Defined contribution schemes The Group operates a number of defined contribution schemes.The defined benefit schemes in Ireland and the UK were closed to new members from December 1997. Employees joining after December 1997 join on a defined contribution basis.The standard contribution rate in Ireland is 8%.The standard contribution rate in the UK is 5% and these members are also accruing benefits under SERPS (the State Earnings Related Pension Scheme). The total cost in respect of defined contribution schemes for 2006 was € 19m (2005: € 25m). For Allied Irish Banks, p.l.c., the total cost amounted to € 14m (2005: € 16m). 11 Amounts written off financial investments available for sale Debt securities Equity shares 2006 € m - 1 1 2005 € m 1 7 8 85 Notes to the accounts 12 Profit on disposal of property In addition to the sale of properties which were excess to business requirements, giving rise to profit on disposal of € 7m (2005: € 14m), the Group undertook a significant property sale and leaseback programme during 2006. The leases qualify as operating leases and the profit arising on these transactions is included in profit on disposal of property. Details of the more significant of these transactions are set out below: Bankcentre Headquarters Building - Blocks A to D Bankcentre Headquarters Building - Blocks E to H Donnybrook House 11 Branches Profit recognised € m Tax charge € m Initial rent payable € m Minimum lease term 167 89 29 73 358 32 17 4 15 68 4 yrs, 11 mths, 3 weeks 20 years 1 year 15 years 4.5 7.1 1.2 3.1 15.9 The commitments in respect of the operating lease rentals are included in Note 56 Commitments, operating lease rentals. 13 Construction contract income Construction revenue Construction expense 2006 € m 171 (75) 96 2005 € m 81 (36) 45 In 2005, AIB sold land at its Bankcentre headquarters to a syndicate of investors, the Serpentine Consortium. The consortium has outsourced the construction of a new development on the above land to Blogram Limited, a subsidiary of Allied Irish Banks, p.l.c., on a fixed price contract basis. The total consideration amounts to € 367.8m of which € 55.0m has been received. At 31 December 2006, € 196.5m was due from the consortium in respect of construction contracts in progress. Dohcar Limited, a subsidiary of Allied Irish Banks, p.l.c., has contracted with the Serpentine Consortium to lease the property on completion at an initial rent of € 16.1m per annum for a period of 30 years with a break clause at year 23. Future lease rental commitments in respect of this transaction have been reported in the accounts (see note 56). The nature of this transaction, which includes the sale of land, an agreement to construct a building and an agreement to lease the building represents a linked transaction and meets the definition under IFRS of a sale and leaseback. Because the significant income from the transaction arises from the construction contract, the income is recognised in accordance with IAS 11 “Construction Contracts”. 14 Profit on disposal of businesses 2006 The profit on disposal of businesses in 2006 of € 79m includes profit relating to the transfer by Ark Life of investment management contracts in conjunction with the sale of Ark Life of € 26m (tax charge € Nil) (note 1); AIB’s 50% stake in AIB/BNY Securities Services (Ireland) Ltd of € 51m (tax charge € Nil); and Ketchum Canada Inc. of € 1m (tax charge € Nil), and the accrual of € 1m (tax charge € 0.3m), arising from the sale of the Govett business in 2003. 2005 The profit on disposal of businesses in 2005 of € 5m relates to the sale of Community Counselling Services of € 4m (tax charge € 1m), and the accrual of € 1m (tax charge € 0.3m), arising from the sale of the Govett business in 2003. 15 Auditor’s remuneration Auditor’s remuneration (including VAT): Audit work: Statutory audit Audit related services Taxation services Other consultancy Non-audit work : 86 2006 € m 2.6 8.2 0.5 0.5 1.0 11.8 2005 € m 2.5 1.9 0.8 1.2 2.0 6.4 15 Auditor’s remuneration (continued) Audit related services include fees for assignments which are of an audit nature.These fees include assignments where the Auditor provides assurance to third parties, and in 2006 includes fees in respect of preparation for Sarbanes Oxley implementation. In the year ended 31 December 2006, 39% (2005: 43%) of the total statutory audit fees and 29% (2005: 31%) of the audit related services fees were paid to overseas offices of the Auditor. The Group policy on the provision of non-audit services to the bank and its subsidiary companies includes the prohibition on the provision of certain services and the pre-approval by the Audit Committee of the engagement of the Auditor for non-audit work. The Audit Committee has reviewed the level of non-audit services fees and is satisfied that it has not affected the independence of the Auditor. It is Group policy to subject all large consultancy assignments to competitive tender. 16 Income tax expense - continuing operations Allied Irish Banks, p.l.c. and subsidiaries Corporation tax in Republic of Ireland Current tax on income for the period(1) Adjustments in respect of prior periods Double taxation relief Foreign tax Current tax on income for the period Adjustments in respect of prior periods Deferred taxation Origination and reversal of temporary differences Total income tax expense - continuing operations Effective income tax rate – continuing operations 2006 € m 2005 € m 252 3 255 (23) 232 220 (14) 206 438 (5) 433 160 1 161 (10) 151 163 (11) 152 303 16 319 16.6% 18.7% (1)Includes a charge of € 29.5m in the year ended 31 December 2005 in relation to the Irish Government bank levy. Factors affecting the effective income tax rate The effective income tax rate for 2006 and 2005 is lower than the weighted average of the Group’s statutory corporation tax rates across its geographic locations. The differences are explained below. Weighted average corporation tax rate Effects of: Expenses not deductible for tax purposes Exempted income, income at reduced rates and tax credits Income taxed at higher rates Net effect of differing tax rates overseas Capital allowances in excess of depreciation Other differences Tax on associated undertakings Bank levy in Republic of Ireland Adjustments to tax charge in respect of previous periods Effective income tax rate - continuing operations 2006 % 18.2 0.6 (1.0) 0.8 0.2 - 0.2 (1.9) - (0.5) 16.6 2005 % 20.7 0.4 (1.2) - 0.3 0.2 (0.1) (3.0) 1.7 (0.3) 18.7 87 Notes to the accounts 17 Minority interests in subsidiaries The profit attributable to minority interests is analysed as follows: Ordinary share interest in subsidiaries Other equity interest in subsidiaries (note 49) 18 Earnings per share (a) Basic Profit attributable to equity holders of the parent Distributions to other equity holders (note 20) Profit attributable to ordinary shareholders 2006 € m 65 48 113 2006 € m 2,185 (38) 2,147 2005 € m 42 48 90 2005 € m 1,343 (38) 1,305 Weighted average number of shares in issue during the period Earnings per share 870.1m 864.5m EUR 246.8c EUR 151.0c (b) Diluted Profit attributable to ordinary shareholders (note 18(a)) Dilutive impact of potential ordinary shares in subsidiary and associated companies Adjusted profit attributable to ordinary shareholders Weighted average number of shares in issue during the period Dilutive effect of options outstanding Potential weighted average number of shares Earnings per share - diluted (c) Continuing operations Profit attributable to ordinary shareholders (note 18(a)) Discontinued operations Profit attributable to ordinary shareholders - continuing operations Weighted average number of shares in issue during the period Earnings per share continuing operations (d) Continuing operations - diluted Profit attributable to ordinary shareholders - continuing operations (note 18(c)) Dilutive impact of potential ordinary shares in subsidiary and associated companies Adjusted profit attributable to ordinary shareholders - continuing operations Weighted average number of shares in issue during the period Dilutive effect of options outstanding Potential weighted average number of shares Earnings per share continuing operations - diluted 2006 € m 2,147 (2) 2,145 2005 € m 1,305 (1) 1,304 Number of shares (millions) 870.1 7.0 864.5 5.7 877.1 870.2 EUR 244.6c EUR 149.8c 2006 € m 2,147 116 2,031 2005 € m 1,305 46 1,259 870.1m 864.5m EUR 233.5c EUR 145.7c 2006 € m 2,031 (2) 2,029 2005 € m 1,259 (1) 1,258 Number of shares (millions) 870.1 7.0 864.5 5.7 877.1 870.2 EUR 231.4c EUR 144.6c 88 19 Adjusted earnings per share (a) Basic Earnings per share As reported (note 18(a)) Adjustments: Construction contract income Hedge volatility(1) Profit on disposal of property Profit on disposal of businesses* Diluted Earnings per share As reported (note 18(b)) Adjustments: Construction contract income Hedge volatility(1) Profit on disposal of property Profit on disposal of businesses* * of which Ark Life amounts to € 112m which is included within discontinued activities (b) Basic Earnings per share – continuing operations As reported (note 18(c)) Adjustments: Construction contract income Hedge volatility(1) Profit on disposal of property Profit on disposal of businesses Diluted Earnings per share – continuing operations As reported (note 18(d)) Adjustments: Construction contract income Hedge volatility(1) Profit on disposal of property Profit on disposal of businesses Profit attributable 2005 € m 2006 € m Earnings per share 2005 cent 2006 cent 2,147 1,305 246.8 151.0 (82) 4 (290) (189) 1,590 (38) (6) - - 1,261 (9.4) 0.5 (33.4) (21.7) 182.8 (4.4) (0.7) - - 145.9 Profit attributable 2005 € m 2006 € m Earnings per share 2005 cent 2006 cent 2,145 1,304 244.6 149.8 (82) 4 (290) (189) 1,588 (38) (6) - - 1,260 (9.3) 0.5 (33.2) (21.5) 181.1 (4.4) (0.7) - - 144.7 Profit attributable 2005 € m 2006 € m Earnings per share 2005 cent 2006 cent 2,031 1,259 233.5 145.7 (82) 4 (290) (77) (38) (6) - - 1,586 1,215 (9.4) 0.5 (33.4) (8.8) 182.4 (4.4) (0.7) - - 140.6 Profit attributable 2005 € m 2006 € m Earnings per share 2005 cent 2006 cent 2,029 1,258 231.4 144.6 (82) 4 (290) (77) 1,584 (38) (6) - - 1,214 (9.3) 0.5 (33.2) (8.7) 180.7 (4.4) (0.7) - - 139.5 Although not required under IFRS, adjusted earnings per share is presented to help understand the underlying performance of the Group.The adjustments in 2006 and 2005 are items that management believe do not reflect the underlying business performance. The adjustment in respect of profit on sale of property relates only to the profit on sale of properties that are subject to sale and leaseback arrangements, (note 12). The adjustments listed above are shown net of taxation. (1)Included in net trading income 89 Notes to the accounts 20 Distributions to other equity holders Distributions to other equity holders are recognised in equity when declared by the Board of Directors. In 2006, the distribution on the € 500m Reserve Capital Instruments (RCIs) amounted to € 38m (2005: € 38m). 21 Distributions on equity shares Ordinary shares of € 0.32 each Final dividend 2005 (2004) Interim dividend 2006 (2005) Total 2006 2005 cent per € 0.32 share 42.3 25.3 67.6 38.5 23.0 61.5 2006 € m 367 221 588 2005 € m 332 200 532 Final dividends on ordinary shares are recognised in equity in the period in which they are approved by the Company’s shareholders, or in the case of the interim dividend, when it has been declared by the Board of Directors and paid in the period. Dividends declared after the balance sheet date are disclosed in note 63. 22 Treasury bills and other eligible bills Treasury bills amounting to € 196m (2005: € 201m) were held as available for sale. Their maturity profile is set out in note 52. At 31 December 2006 there was a fair value loss of € 2m recognised in equity (2005: € Nil). 23 Trading portfolio financial assets Loans and receivables to banks Loans and receivables to customers Debt securities: Government securities Other public sector securities Other debt securities(1) Equity shares Of which listed: Debt securities Equity instruments Of which unlisted: Loans and receivables to banks Loans and receivables to customers Equity shares 2006 € m 3 25 274 - 8,527 8,801 124 8,953 2006 € m 8,801 109 3 25 15 Group 2005 € m 3 72 922 19 9,008 9,949 89 10,113 Group 2005 € m 9,949 79 3 72 10 Allied Irish Banks, p.l.c. 2005 € m 2006 € m 3 25 96 - 8,527 8,623 66 8,717 3 72 424 19 9,008 9,451 53 9,579 Allied Irish Banks, p.l.c. 2005 € m 2006 € m 8,623 66 3 25 - 9,451 48 3 72 5 8,953 10,113 8,717 9,579 (1)Other debt securities include € 4,832m (2005: € 5,770m) of bank eurobonds and € 3,039m (2005: € 2,646m) of corporate collateralised mortgage obligations. 90 23 Trading portfolio financial assets (continued) Analysed by residual maturity as follows: Group Loans and receivables to banks Loans and receivables to customers Debt securities Allied Irish Banks, p.l.c. Loans and receivables to banks Loans and receivables to customers Debt securities Analysed by residual maturity as follows: Group Loans and receivables to banks Loans and receivables to customers Debt securities Allied Irish Banks, p.l.c. Loans and receivables to banks Loans and receivables to customers Debt securities Within Between one one year and five years € m € m Five years and over € m 3 - 1,066 1,069 3 - 936 939 - 15 3,722 3,737 - 15 3,674 3,689 - 10 4,013 4,023 - 10 4,013 4,023 Within one year € m Between one and five years € m Five years and over € m 3 40 1,884 1,927 3 40 1,419 1,462 - 18 4,652 4,670 - 18 4,619 4,637 - 14 3,413 3,427 - 14 3,413 3,427 2006 Total € m 3 25 8,801 8,829 3 25 8,623 8,651 2005 Total € m 3 72 9,949 10,024 3 72 9,451 9,526 24 Derivative financial instruments The objectives, policies and strategies in managing the risks that arise in connection with the use of financial instruments, including derivative financial instruments, are set out in the Financial review. Derivatives are used to service customer requirements, to manage the Group’s interest rate, exchange rate and equity exposures and for trading purposes. Derivative instruments are contractual agreements whose value is derived from price movements in underlying assets, interest rates, foreign exchange rates or indices.The majority of the Group’s derivative activities are undertaken at the parent company level and the discussion below applies equally to the parent company and Group. These instruments involve, to varying degrees, elements of market risk and credit risk which are not reflected in the consolidated balance sheet. Market risk is the exposure to potential loss through holding interest rate, exchange rate and equity positions in the face of absolute and relative price movements, interest rate volatility, movements in exchange rates and shifts in liquidity. Credit risk is the exposure to loss should the counterparty to a financial instrument fail to perform in accordance with the terms of the contract. While notional principal amounts are used to express the volume of derivative transactions, the amounts subject to credit risk are much lower because derivative contracts typically involve payments based on the net differences between specified prices or rates. Credit risk arises to the extent that the default of a counterparty to the derivative transaction exposes the Group to the need to replace existing contracts at prices that are less favourable than when the contract was entered into.The potential loss to the Group is known as the gross replacement cost. For risk management purposes, consideration is taken of the fact that not all counterparties to derivative positions are expected to default at the point where the Group is most exposed to them. Credit risk in derivatives contracts is the risk that the Group’s counterparty in the contract defaults prior to maturity at a time when the Group has a claim on the counterparty under the contract.The Group would then have to replace the contract at the current market rate, which may result in a loss. 91 Notes to the accounts 24 Derivative financial instruments (continued) The following tables present the notional principal amount and the gross replacement cost of interest rate, exchange rate, equity and credit derivative contracts for 2006 and 2005. Interest rate contracts(1) Notional principal amount Gross replacement cost Exchange rate contracts(1) Notional principal amount Gross replacement cost Equity contracts(1) Notional principal amount Gross replacement cost Credit derivatives(1) Notional principal amount Gross replacement cost Total Notional principal amount Gross replacement cost 2006 € m 217,435 1,165 € m 20,226 107 € m 6,485 438 € m 570 - € m Group 2005 € m 178,326 1,146 Allied Irish Banks, p.l.c. 2005 € m 2006 € m 194,657 1,105 161,774 1,080 € m 19,799 238 € m 4,386 253 € m - - € m € m 17,507 71 € m 6,184 438 € m 570 - € m € m 17,133 194 € m 4,089 253 € m - - € m 244,716 1,710 202,511 1,637 218,918 1,614 182,996 1,527 (1)Interest rate contracts are entered into for both hedging and trading purposes. Exchange rate, equity and credit derivative contracts are entered into for trading purposes only. The Group uses the same credit control and risk management policies in undertaking all off-balance sheet commitments as it does for on balance lending including counterparty credit approval, limit setting and monitoring procedures. In addition, in relation to derivative instruments, the Group’s exposure to market risk is controlled within the risk limits in the Group’s Interest Rate Risk and Foreign Exchange Risk Policies and is further constrained by the risk parameters incorporated in the Group’s Derivatives Policy as approved by the Board. The following table analyses the notional principal amount and gross replacement cost of interest rate, exchange rate, equity contracts and credit derivatives by maturity. < 1 year € m 1 < 5 years € m Residual maturity Total € m 5 years + € m 146,629 695 73,469 717 24,618 298 244,716 1,710 131,780 557 54,060 645 16,671 435 202,511 1,637 2006 Notional principal amount Gross replacement cost 2005 Notional principal amount Gross replacement cost 92 24 Derivative financial instruments (continued) AIB Group has the following concentration of exposures in respect of notional principal amount and gross replacement cost of all interest rate, exchange rate, equity and credit derivative contracts.The concentrations are based primarily on the location of the office recording the transaction. Republic of Ireland United States of America United Kingdom Poland Notional principal amount 2005 € m 2006 € m Gross replacement cost 2005 € m 2006 € m 192,329 161,589 1,403 3,712 24,952 23,723 4,134 18,449 18,339 34 182 91 244,716 202,511 1,710 1,318 40 184 95 1,637 Trading activities AIB Group maintains trading positions in a variety of financial instruments including derivatives.These financial instruments include interest rate, foreign exchange and equity futures, interest rate swaps, interest rate caps and floors, forward rate agreements, and interest rate, foreign exchange and equity index options. Most of these positions arise as a result of activity generated by corporate customers while the remainder represent trading decisions of the Group’s derivative and foreign exchange traders with a view to generating incremental income. All trading activity is conducted within risk limits approved by the Board. Systems are in place which measure risks and profitability associated with derivative trading positions as market movements occur. Independent risk control units monitor these risks. The Group’s credit exposure at 31 December 2006 and 2005 from derivatives held for trading purposes is represented by the fair value of instruments with a positive fair value, € 2,470m (2005: € 1,849m). The risk that counterparties to derivative contracts might default on their obligations is monitored on an ongoing basis and the level of credit risk is minimised by dealing with counterparties of good credit standing. All trading instruments are subject to market risk. As the traded instruments are recognised at market value, these changes directly affect reported income for the period. Exposure to market risk is managed in accordance with risk limits approved by the Board through buying or selling instruments or entering into offsetting positions. The Group undertakes trading activities in interest rate contracts with the Group being a party to interest rate swap, forward, futures, option, cap and floor contracts.The Group’s largest activity is in interest rate swaps.The two parties to an interest rate swap agree to exchange, at agreed intervals, payment streams calculated on a specified notional principal amount. Forward rate agreements are also used by the Group in its trading activities. Forward rate agreements settle in cash at a specified future date based on the difference between agreed market rates applied to a notional principal amount. Most of these contracts have maturity terms up to one year. Risk management activities In addition to meeting customer needs, the Group’s principal objective in holding or issuing derivatives for purposes other than trading is the management of interest rate and foreign exchange rate risks. The operations of the Group are exposed to interest rate risk arising from the fact that assets and liabilities mature or reprice at different times or in differing amounts. Derivatives are used to modify the repricing or maturity characteristics of assets and liabilities in a cost-efficient manner.This flexibility helps the Group to achieve liquidity and risk management objectives. Similarly, foreign exchange and equity derivatives can be used to hedge the Group’s exposure to foreign exchange and equity risk, as required. Derivative prices fluctuate in value as the underlying interest rate, foreign exchange rate, or equity prices change. If the derivatives are purchased or sold as hedges of balance sheet items, the appreciation or depreciation of the derivatives, will generally be offset by the unrealised depreciation or appreciation of the hedged items.This means that separate disclosure of market risk on derivatives used for hedging purposes is not meaningful. To achieve its risk management objective, the Group uses a combination of derivative financial instruments, particularly interest rate swaps, futures and options, as well as other contracts. The notional principal and fair value amounts, weighted average maturity and weighted average receive and pay rates for instruments held for risk management purposes entered into by the Group at 31 December 2006 and 2005, are presented within this note. 93 Notes to the accounts 24 Derivative financial instruments (continued) The following table shows the notional principal amounts and the fair values of derivative financial instruments analysed by product and purpose as at 31 December 2006 and 31 December 2005. 31 December 2006 31 December 2005 Derivatives held for trading Interest rate derivatives - over the counter (OTC) Interest rate swaps Cross-currency interest rate swaps Forward rate agreements (1) Interest rate options Other interest rate contracts Total OTC interest rate contracts Interest rate derivatives - exchange traded Interest rate futures Interest rate contracts total Foreign exchange derivatives - (OTC) Currency forwards Currency swaps Currency options bought & sold Total OTC foreign exchange derivatives Foreign exchange derivatives - exchange traded Foreign exchange traded options Foreign exchange derivatives total Equity index options (OTC) Equity index options - exchange traded Equity index contracts total Credit derivatives (OTC) Credit derivatives Credit derivatives contracts total Notional principal amount € m Fair values Assets Liabilities € m € m Notional principal amount € m 93,020 2,018 27,233 3,302 446 768 1,042 (723) (1,024) 13 8 2 (12) (8) (3) 91,154 1,509 17,056 2,716 178 Fair values Liabilities Assets € m 556 766 8 4 - € m (642) (754) (7) (4) - 126,019 1,833 (1,770) 112,613 1,334 (1,407) 19,581 - (3) 14,272 - (5) 145,600 1,833 (1,773) 126,885 1,334 (1,412) 329 12,773 7,124 20,226 - 20,226 6,393 92 6,485 570 570 3 165 31 199 - 199 437 1 438 - - (10) (154) (22) 2,451 14,640 2,664 (186) 19,755 - (186) (423) - 44 19,799 4,386 - (423) 4,386 - - - - 8 232 21 261 - 261 254 - 254 - - (11) (216) (17) (244) - (244) (123) - (123) - - Total trading contracts 172,881 2,470 (2,382) 151,070 1,849 (1,779) Derivatives designated as fair value hedges Interest rate swaps (OTC) 47,374 396 (116) 32,923 368 (170) Derivatives designated as cash flow hedges Interest rate swaps (OTC) Total hedging contracts 24,461 71,835 24 420 (33) 18,518 (149) 51,441 222 590 (18) (188) Total derivative financial instruments 244,716 2,890 (2,531) 202,511 2,439 (1,967) (1)Cross currency interest rate swaps have an exchange of nominals on settlement. Such nominals are therefore shown gross on the balance sheet. The total hedging ineffectiveness charged to the income statement on cash flow hedges amounted to € 13.0m (2005: € 4.3m) is included in net trading income. 94 24 Derivative financial instruments (continued) This table presents the notional principal and fair value amounts, weighted average maturity and weighted average receive and pay rates for instruments held for risk management purposes entered into by Group for 2006 and 2005. Interest rate derivatives designated as fair value hedges Interest rate swaps: Pay fixed 1 year or less 1 - 5 years Over 5 years Receive fixed 1 year or less 1 - 5 years Over 5 years Pay/receive floating 1 year or less 1 - 5 years Over 5 years Interest rate derivatives designated as cash flows hedges Interest rate swaps: Pay fixed 1 year or less 1 - 5 years Over 5 years Receive fixed 1 year or less 1 - 5 years Over 5 years Weighted average maturity in years 2006 2005 Notional principal amount 2005 € m 2006 € m Weighted average rate Pay Receive Estimated fair value 2006 % 2005 % 2006 % 2005 % 2006 € m 2005 € m 1,058 1,747 1,034 1,248 1,902 872 0.32 0.42 2.81 13.41 2.52 12.85 3.76 3.72 4.11 2.81 3.09 3.44 4.12 3.98 4.79 3.99 4.40 5.10 (13) (10) (8) (21) (53) (62) 3,839 4,022 4.98 4.11 3.83 3.08 4.24 4.42 (31) (136) 24,209 19,874 0.23 0.27 4,957 2,863 170 1,834 2.47 11.08 3.56 14.63 4.26 3.45 4.79 3.14 5.00 5.34 4.29 3.59 4.10 2.98 4.33 5.11 32,029 21,878 1.55 1.50 4.18 3.33 4.16 3.17 3,511 5,807 2,188 10 5,231 1,782 0.60 3.16 7.73 0.75 2.28 8.17 3.85 3.63 3.84 3.69 2.56 2.71 3.87 3.64 3.85 3.88 2.51 2.67 11,506 7,023 3.25 3.77 3.74 2.60 3.75 2.55 417 2,980 379 284 2,311 266 0.72 2.83 6.54 0.59 2.97 6.93 3.67 3.63 3.65 2.27 2.45 2.38 3.09 3.38 3.94 2.99 3.05 3.82 3,776 2,861 2.97 3.10 3.64 2.42 3.40 3.12 4,692 12,013 3,980 2,121 10,714 2,822 0.43 2.86 7.20 0.52 2.66 6.71 4.26 4.06 4.61 4.11 3.87 4.62 4.02 4.09 4.50 2.64 2.68 2.56 20,685 15,657 3.15 3.10 4.21 4.04 4.15 2.65 247 15 21 283 9 12 7 28 3 35 2 40 29 (38) (40) (49) 153 14 155 322 - 8 4 12 - (5) (9) (14) 12 131 75 218 The pay fixed cash flow hedges are used to hedge the cash flows on variable rate liabilities, primarily floating rate notes. The cash flows are expected to occur in periods up to 2016. The receive fixed cash flow hedges are used to hedge the cash flows on variable rate assets, primarily the variable rate loan portfolio. The cash flows are expected to occur in periods up to 2016. The fair value hedges are entered into to hedge the exposure to changes in the fair value of recognised assets or liabilities arising from changes in interest rates, primarily available for sale securities and fixed rate liabilities. The fair values of financial instruments are set out in note 51. 95 Notes to the accounts 24 Derivative financial instruments (continued) Netting financial assets and financial liabilities Derivatives financial instruments are shown on the balance sheet at their fair value, those with a positive fair value are reported as assets and those with a negative fair value are reported as liabilities. The Group has a number of master netting agreements in place which allow it to net positive and negative fair values on derivatives contracts in the event of default by the counterparty. The effect of netting contracts subject to master netting agreements would reduce the balance sheet carrying amount of derivative assets and liabilities by € 503m (2005: € 502m). Group 2005 € m Allied Irish Banks, p.l.c. 2005 € m 2006 € m 25 Loans and receivables to banks Analysed by residual maturity: Over 5 years 5 years or less but over 1 year 1 year or less but over 3 months 3 months or less Repayable on demand Provisions for impairment of loans and receivables (note 27) Due from subsidiary undertakings: Subordinated Unsubordinated Amounts include: Reverse repurchase agreements Due from associated undertakings Loans and receivables to banks by geographical area(1) Republic of Ireland United States of America United Kingdom Poland Rest of the world 2006 € m 128 - 420 11,468 886 12,902 2 12,900 146 11 376 6,282 316 7,131 2 7,129 5,138 - 2,259 - - - 325 10,270 830 11,425 - 11,425 118 44,514 44,632 56,057 5,138 - 2006 € m 9,967 861 1,334 736 2 12,900 - 11 87 5,203 262 5,563 - 5,563 117 20,582 20,699 26,262 2,259 - Group 2005 € m 4,260 1,366 677 824 2 7,129 Under reverse repurchase agreements, the Group has accepted collateral that it is permitted to sell or repledge in the absence of default by the owner of the collateral. The fair value of collateral received amounted to € 5,138m (2005: € 2,259m). The collateral received consisted of government securities of € 4,671m (2005: € 2,171m) and other securities of € 467m (2005: € 88m). The fair value of collateral sold or repledged amounted to € 1,896m (2005: € Nil). The collateral sold or repledged consisted of government securities of € 1,432m (2005: € Nil) and other securities of € 464m (2005: € Nil). (1) The classification of loans and receivables to banks by geographical area is based primarily on the location of the office recording the transaction. 96 26 Loans and receivables to customers Group Loans and receivables to customers Amounts receivable under finance leases and hire purchase contracts (note 28) Unquoted securities Provisions for impairment of loans and receivables (note 27) Analysed by residual maturity: Over 5 years 5 years or less but over 1 year 1 year or less but over 3 months 3 months or less Provisions for impairment of loans and receivables (note 27) Of which repayable on demand or at short notice Amounts include: Due from associated undertakings Allied Irish Banks, p.l.c. Loans and receivables to customers Amounts receivable under finance leases (note 28) Unquoted securities Provisions for impairment of loans and receivables (note 27) Analysed by residual maturity: Over 5 years 5 years or less but over 1 year 1 year or less but over 3 months 3 months or less Provisions for impairment of loans and receivables (note 27) Due from subsidiary undertakings: Subordinated Unsubordinated Of which repayable on demand or at short notice Amounts include: Due from associated undertakings 2006 € m 2005 € m 103,651 81,845 3,003 1,166 (705) 2,774 1,287 (674) 107,115 85,232 39,769 30,538 18,357 19,156 107,820 (705) 107,115 28,418 32,583 22,110 15,192 16,021 85,906 (674) 85,232 21,245 18 - 59,126 66 1,031 (340) 59,512 67 877 (314) 59,883 60,142 13,795 17,933 12,435 11,538 55,701 (340) 55,361 83 4,439 4,522 59,883 26,013 22,204 15,348 9,257 9,926 56,735 (314) 56,421 83 3,638 3,721 60,142 19,285 18 - Amounts include reverse repurchase agreements of € 4m (2005: € 4m). The unwind of the impairment provision discount amounting to € 25m (2005: € 19m) is included in the carrying value of loans and receivables to customers. This has been credited to interest income. 97 Notes to the accounts 26 Loans and receivables to customers (continued) Impaired loans by division AIB Bank ROI AIB Bank UK Capital Markets Poland 2006 € m 366 205 130 232 933 27 Provisions for impairment of loans and receivables Specific € m IBNR(1) € m 2006 Total € m Specific € m IBNR(1) € m Group At beginning of period IFRS transition adjustment Exchange translation adjustments Charge against income statement Transfer to specific Amounts written off Recoveries of amounts written off in previous years At end of period Amounts include: Loans and receivables to banks (note 25) Loans and receivables to customers (note 26) Allied Irish Banks, p.l.c.(2) At beginning of period IFRS transition adjustment Exchange translation adjustments Internal transfer of loan portfolios Charge against income statement Transfer to specific Amounts written off Recoveries of amounts written off in previous years At end of period 514 - (2) - 92 (96) 10 518 2 516 518 233 - - (5) - 71 (45) 2 256 162 - 1 118 (92) - - 189 - 189 189 81 - - (5) 79 (71) - - 84 676 - (1) 118 - (96) 10 707 2 705 707 314 - - (10) 79 - (45) 2 340 478 (3) 13 - 95 (72) 3 514 2 512 514 203 (14) 2 9 - 120 (88) 1 233 282 (143) 3 115 (95) - - 162 - 162 162 172 (98) - - 127 (120) - - 81 Group 2005 € m 308 166 132 262 868 2005 Total € m 760 (146) 16 115 - (72) 3 676 2 674 676 375 (112) 2 9 127 - (88) 1 314 (1)Incurred but not reported (2)The provisions for impairment of loans and receivables in Allied Irish Banks, p.l.c. at 31 December 2006 and 2005 relate to loans and receivables to customers only. 98 28 Amounts receivable under finance leases and hire purchase contracts Gross receivables Not later than 1 year Later than one year and not later than 5 years Later than 5 years Total Unearned future finance income Deferred costs incurred on origination Total Present value of minimum payments analysed by residual maturity Not later than 1 year Later than one year and not later than 5 years Later than 5 years Present value of minimum payments Provision for uncollectible minimum payments receivable amounted to:(1) Unguaranteed residual values accruing to the benefit of the Group 2006 € m 944 2,178 181 3,303 (309) 9 3,003 871 1,974 158 3,003 24 12 Group 2005 € m Allied Irish Banks, p.l.c. 2005 € m 2006 € m 1,004 1,871 146 3,021 (254) 7 2,774 916 1,725 133 2,774 16 12 8 37 27 72 (6) - 66 7 34 25 66 - - 19 44 13 76 (9) - 67 18 42 7 67 - - (1)Included in the provision for impairment of loans and receivables to customers (note 27). 99 Notes to the accounts 29 Loans and receivables to customers - concentrations of credit risk Loans and receivables to customers by geographical area(2) Republic of Ireland United States of America United Kingdom Poland Rest of the world Construction and property Republic of Ireland United States of America United Kingdom Poland Rest of the world 2006 € m 70,886 2,454 28,546 4,579 650 107,115 € m 14,863 620 8,819 531 101 2006 % of total loans(1) 20.9 0.6 9.7 1.0 0.3 32.5 24,934 Group 2005 € m 54,571 2,497 24,210 3,663 291 85,232 2005 % of total loans(1) 17.3 0.7 10.3 0.6 0.1 29.0 € m 22,604 629 10,492 1,105 320 35,150 The construction and property portfolio is well diversified across the Group’s principal markets by spread of location and individual customer. In addition, the Group’s outstandings are dispersed across the segments within the construction and property portfolio to ensure that the credit risk is widely spread. Residential mortgages Republic of Ireland United Kingdom Poland 2006 % of total loans(1) 19.8 4.2 0.6 24.6 € m 21,420 4,540 684 26,644 2005 % of total loans(1) 19.9 4.4 0.6 24.9 € m 17,054 3,802 540 21,396 The residential mortgage portfolio contains high quality lendings which are well diversified by borrower and are represented across the Group’s principal markets. (1)Total loans relate to Group loans and receivables to customers and are gross of provisions and unearned income (note 26). (2)The geographical distribution of loans and receivables to customers is primarily on the location of the office recording the transaction. 100 30 Financial investments available for sale The following tables give, for the Group and Allied Irish Banks, p.l.c. at 31 December 2006 and 31 December 2005, the carrying value (fair value) of financial investments available for sale by major classifications together with the unrealised gains and losses net of hedging not recognised in the income statement. Unrealised Fair Value Gross Gains € m € m Group Debt securities Irish government securities Euro government securities Non Euro government securities Non European government securities U.S.Treasury & U.S. government agencies Collateralised mortgage obligations Other asset backed securities Euro bank securities Non Euro bank securities Certificates of deposit Other investments Total debt securities Equity shares Total Allied Irish Banks, p.l.c. Debt securities Irish government securities Euro government securities Non Euro government securities Non European government securities U.S.Treasury & U.S. government agencies Collateralised mortgage obligations Other asset backed securities Euro bank securities Non Euro bank securities Certificates of deposit Other investments Total debt securities Equity shares Total 477 3,236 2,453 1,358 116 2,260 417 3,508 3,501 1,591 455 19,372 293 19,665 436 2,789 673 1,358 95 2,260 417 3,508 3,501 663 408 16,108 19 16,127 8 16 27 - - 3 - 2 2 1 6 65 203 268 8 7 - - - 3 - 2 2 - 6 28 5 33 Unrealised Net Unrealised Gross Losses Gains/(Losses) Tax effect € m € m € m 31 December 2006 Net after tax € m (4) (29) (9) (16) - (1) - (36) (9) (1) - (105) - (105) (4) (27) (5) (16) - (1) - (36) (9) (1) - (99) - (99) 4 (13) 18 (16) - 2 - (34) (7) - 6 (40) 203 163 4 (20) (5) (16) - 2 - (34) (7) (1) 6 (71) 5 (66) (1) - (3) 2 - - - 4 1 - (1) 2 (31) (29) (1) 3 1 2 - - - 4 1 - (1) 9 (1) 8 3 (13) 15 (14) - 2 - (30) (6) - 5 (38) 172 134 3 (17) (4) (14) - 2 - (30) (6) (1) 5 (62) 4 (58) The amount removed from equity and recognised in the income statement in respect of financial investments available for sale amounted to a charge of € 77m during 2006, Allied Irish Banks, p.l.c. € 83m. 101 Notes to the accounts 30 Financial investments available for sale (continued) Fair Value € m Unrealised Gross Gains € m Unrealised Gross Losses € m Net Unrealised Gains/(Losses) € m Group Debt securities Irish government securities Euro government securities Non Euro government securities Non European government securities U.S.Treasury & U.S. government agencies Collateralised mortgage obligations Other asset backed securities Euro bank securities Non Euro bank securities Certificates of deposit Other investments Total debt securities Equity shares Total Allied Irish Banks, p.l.c. Debt securities Irish government securities Euro government securities Non Euro government securities Non European government securities U.S.Treasury & U.S. government agencies Collateralised mortgage obligations Other asset backed securities Euro bank securities Non Euro bank securities Certificates of deposit Other investments Total debt securities Equity shares Total 492 3,943 2,877 1,035 516 638 534 3,457 2,149 731 321 16,693 171 16,864 492 3,529 1,192 1,035 491 638 367 3,457 2,149 421 316 14,087 5 14,092 10 41 39 13 4 1 2 18 6 1 3 138 64 202 10 27 5 13 4 1 1 18 6 1 3 89 - 89 - (12) (1) (2) (1) (1) - (11) (1) - (2) (31) (3) (34) - (11) (1) (2) (1) (1) - (11) (1) - (2) (30) - (30) 10 29 38 11 3 - 2 7 5 1 1 107 61 168 10 16 4 11 3 - 1 7 5 1 1 59 - 59 31 December 2005 Net after tax € m Tax effect € m (1) (6) (7) (1) - - - (1) (1) - - (17) (8) (25) (1) (2) (1) (1) - - - (1) (1) - - (7) - (7) 9 23 31 10 3 - 2 6 4 1 1 90 53 143 9 14 3 10 3 - 1 6 4 1 1 52 - 52 The amount removed from equity and recognised in the income statement in respect of financial investments available for sale amounted to income of € 91m during 2005, Allied Irish Banks, p.l.c. € 91m. 102 30 Financial investments available for sale (continued) Analysis of movements in financial investments available for sale Debt securities € m Equity shares € m Total € m Group At 1 January 2006 Exchange translation adjustments Purchases Sales Maturities Provisions for impairment Amortisation of (premiums) net of discounts Movement in unrealised (losses)/gains At 31 December 2006 Allied Irish Banks, p.l.c. At 1 January 2006 Exchange translation adjustments Purchases Sales Maturities Amortisation of (premiums) net of discounts Movement in unrealised (losses)/gains At 31 December 2006 16,693 (203) 24,616 (12,283) (9,159) - (64) (228) 19,372 14,087 (235) 19,934 (12,209) (5,197) (59) (213) 16,108 171 2 19 (40) - (1) - 142 293 5 - 9 - - - 5 16,864 (201) 24,635 (12,323) (9,159) (1) (64) (86) 19,665 14,092 (235) 19,943 (12,209) (5,197) (59) (208) 19 16,127 103 Notes to the accounts 30 Financial investments available for sale (continued) Analysis of movements in financial investments available for sale Group At 1 January 2005 Exchange translation adjustments Purchases Sales Maturities Provisions for impairment Amortisation of (premiums) net of discounts Movement in unrealised (losses)/gains At 31 December 2005 Allied Irish Banks, p.l.c. At 1 January 2005 Exchange translation adjustments Purchases Sales Maturities Transfer from subsidiary company Provisions for impairment Amortisation of (premiums) net of discounts Movement in unrealised losses At 31 December 2005 Debt securities analysed by remaining maturity Due within one year After one year, but within five years After five years, but within ten years After ten years 2006 € m 4,206 9,148 3,464 2,554 19,372 Debt securities € m Equity shares € m 15,546 650 9,782 (5,068) (4,122) (1) (64) (30) 174 6 15 (18) - (7) - 1 Total € m 15,720 656 9,797 (5,086) (4,122) (8) (64) (29) 16,693 171 16,864 13,160 563 7,485 (4,939) (2,075) 19 (1) (84) (41) 14,087 Group 2005 € m 4,825 7,645 2,865 1,358 16,693 2 - 4 - - - (1) - - 5 13,162 563 7,489 (4,939) (2,075) 19 (2) (84) (41) 14,092 Allied Irish Banks, p.l.c. 2005 € m 2006 € m 2,844 7,666 3,044 2,554 3,849 6,340 2,540 1,358 16,108 14,087 104 30 Financial investments available for sale (continued) The following table gives for the Group and Allied Irish Banks, p.l.c. at 31 December 2006, an analysis of the securities portfolio with unrealised losses not recognised in the income statement, distinguished between securities with continuous unrealised loss positions of less than 12 months and those with continuous unrealised loss positions for periods in excess of 12 months. 2006 Fair value 2006 Unrealised losses Investments with unrealised losses of less than 12 months € m Investments with unrealised losses of more than 12 months € m Group Debt securities Irish government securities Euro government securities Non Euro government securities Non European government securities Collateralised mortgage obligations Euro bank securities Non Euro bank securities Certificates of deposit Total debt securities Equity shares Total Allied Irish Banks, p.l.c. Debt securities Irish government securities Euro government securities Non Euro government securities Non European government securities Collateralised mortgage obligations Euro bank securities Non Euro bank securities Certificates of deposit Total debt securities Equity shares Total 42 1,578 905 1,100 - 1,543 1,595 630 7,393 - 7,393 42 1,456 587 1,100 - 1,543 1,595 630 6,953 - 6,953 35 695 61 156 77 1,050 - - 2,074 - 2,074 35 695 - 156 77 1,050 - - 2,013 - 2,013 Unrealised losses of less than 12 months € m Unrealised losses of more than 12 months € m (3) (15) (8) (13) - (14) (9) (1) (63) - (63) (3) (13) (5) (13) - (14) (9) (1) (58) - (58) (1) (14) (1) (3) (1) (22) - - (42) - (42) (1) (14) - (3) (1) (22) - - (41) - (41) Total € m (4) (29) (9) (16) (1) (36) (9) (1) (105) - (105) (4) (27) (5) (16) (1) (36) (9) (1) (99) - (99) Total € m 77 2,273 966 1,256 77 2,593 1,595 630 9,467 - 9,467 77 2,151 587 1,256 77 2,593 1,595 630 8,966 - 8,966 Available for sale financial investments with unrealised losses of more than 12 months have been assessed for impairment and based on the credit risk profile of the counterparties involved, it has been determined that impairment has not arisen at this time. 105 Notes to the accounts 30 Financial investments available for sale (continued) The following table gives for the Group and Allied Irish Banks, p.l.c. at 31 December 2005, an analysis of the securities portfolio with unrealised losses not recognised in the income statement, distinguished between securities with continuous unrealised loss positions of less than 12 months and those with continuous unrealised loss positions for periods in excess of 12 months. Investments with unrealised losses of less than 12 months € m Investments with unrealised losses of more than 12 months € m Group Debt securities Euro government securities Non Euro government securities Non European government securities U.S.Treasury & U.S. government agencies Collateralised mortgage obligations Euro bank securities Non Euro bank securities Other investments Total debt securities Equity shares Total Allied Irish Banks, p.l.c. Debt securities Euro government securities Non Euro government securities Non European government securities U.S.Treasury & U.S. government agencies Collateralised mortgage obligations Euro bank securities Non Euro bank securities Other investments Total debt securities Equity shares Total 1,804 1,638 137 102 313 1,271 244 416 5,925 6 5,931 1,729 234 137 77 313 1,271 244 250 4,255 - 4,255 221 196 81 13 43 192 194 - 940 - 940 221 96 81 13 43 192 194 - 840 - 840 2005 Fair Value Total € m 2,025 1,834 218 115 356 1,463 438 416 6,865 6 6,871 1,950 330 218 90 356 1,463 438 250 5,095 - 5,095 2005 Unrealised losses Unrealised losses of less than 12 months € m Unrealised losses of more than 12 months € m Total € m (10) (1) - (1) (1) (9) (1) (2) (25) - (25) (10) (1) - (1) (1) (9) (1) (2) (25) - (25) (2) - (2) - - (1) (1) - (6) (3) (9) (1) - (2) - - (1) (1) - (5) - (5) (12) (1) (2) (1) (1) (10) (2) (2) (31) (3) (34) (11) (1) (2) (1) (1) (10) (2) (2) (30) - (30) Available for sale financial investments with unrealised losses of more than twelve months have been assessed for impairment and based on the credit risk profile of the counterparties involved, it has been determined that impairment has not arisen at this time. 31 Interests in associated undertakings Included in the Group income statement is the contribution from investments in associated undertakings as follows: Income statement Share of results of associated undertakings Profit on disposal of investments in associated undertakings 2006 159 8 167 2005 149 - 149 106 31 Interests in associated undertakings (continued) Share of net assets including goodwill At 1 January IFRS transition adjustments Exchange translation adjustments Transfer from group undertakings/additions Purchases Disposals Profit for the period Dividends received Deferral of profit on disposal of Bankcentre Unrealised gains/(losses) on financial investments available for sale Actuarial gain recognised in retirement benefit schemes Share based payment M&T market repurchase of shares At 31 December Analysed as to: M & T Bank Corporation (Note 32) Hibernian Life Holdings Limited (Note 33) Other Of which listed on a recognised stock exchange Included in the Group’s share of net assets of associates is goodwill as follows: Goodwill Balance at 1 January Additions during year Exchange translation adjustments At 31 December 2006 € m 1,656 - (183) 276 - (26) 159 (44) (24) 7 8 10 (47) 2005 € m 1,379 16 225 - 3 (4) 149 (41) - (13) - 7 (65) 1,792 1,656 1,516 263 13 1,792 1,524 2006 € m 1,058 12 (110) 960 1,617 - 39 1,656 1,634 2005 € m 917 - 141 1,058 Principal associated undertakings M&T Bank Corporation(1) Registered office: One M&T Plaza, Buffalo, New York 14203, USA (Common stock shares of US $0.50 par value each – Group interest 24.2%(1)) Hibernian Life Holdings Limited(2) Registered office: 1 Park Place, Hatch Street, Dublin 2, Ireland. (Ordinary shares of € 1.25 par value each – Group interest 24.99%) Nature of business Banking and financial services Manufacturer and distributor of life and pension products (1)The Group interest is held directly by Allied Irish Banks, p.l.c. and carried at cost at € 891m in the parent company balance sheet. AIB accounts for its share of profits of M&T on the basis of its average interest in M&T throughout the period, which amounted to 24.0% during 2006 (2005: 23.5%).The agreement with M&T provides for the maintenance of AIB’s interest in M&T at a minimum of 22.5% through share repurchase programmes effected by M&T and through rights provided to AIB which allow it to subscribe for additional shares in M&T at fair market value. M&T shares are listed on the New York Stock Exchange and the fair value of the investment in M&T at 31 December 2006 was € 2,477m (2005: € 2,468m). (2)The Group interest is held directly by Allied Irish Banks, p.l.c. and carried at cost of € 12m in the parent company balance sheet. 107 Notes to the accounts 31 Interests in associated undertakings (continued) Other than as described for M&T and Hibernian Life Holdings Limited, the Group’s interests in associated undertakings are non- credit institutions and are held by subsidiary undertakings. In accordance with the European Communities (Credit Institutions: Accounts) Regulations, 1992, Allied Irish Banks, p.l.c. will annex a full listing of associated undertakings to its annual return to the Companies Registration Office. 32 Interest in M&T Bank Corporation The summary consolidated income statement, summary balance sheet and contribution of M&T Bank Corporation for 2006 and 2005 under IFRS are as follows: Year ended 31 December 2005 US $m Year ended 31 December 2006 US $m 1,713 967 2,680 1,410 1,270 43 1,227 409 818 1,793 1,045 2,838 1,512 1,326 216(1) 1,110 345 765 31 December 2005 US $m 31 December 2006 US $m 41,698 8,400 337 1,990 52,425 37,144 11,495 903 2,883 52,425 44,328 7,252 335 2,319 54,234 39,935 10,141 916 3,242 54,234 Year ended 31 December 2005 US $m Year ended 31 December 2006 US $m 288 (103) 185 266 (89) 177 Summary of consolidated income statement Net interest income Other income Total operating income Total operating expenses Group operating profit before impairment provisions Impairment provisions Group profit before taxation Taxation Group profit after taxation Summary of consolidated balance sheet Cash, loans and receivables Investment securities Fixed assets Other assets Total assets Deposits Other borrowings Other liabilities Shareholders’ funds Total liabilities and shareholders’ funds Contribution of M&T Gross contribution Taxation Contribution to Group profit before taxation Year ended 31 December 2006 € m Year ended 31 December 2005 € m 1,427 832 2,259 1,203 1,056 172(1) 884 275 609 1,372 775 2,147 1,129 1,018 34 984 328 656 31 December 2006 € m 31 December 2005 € m 33,658 5,506 254 1,762 41,180 30,323 7,700 696 2,461 41,180 35,346 7,120 286 1,687 44,439 31,486 9,744 765 2,444 44,439 Year ended 31 December 2006 € m Year ended 31 December 2005 € m 212 (71) 141 230 (82) 148 (1) The impairment provisions in 2006 reflect the allocation by M&T to specific provisions of previously unallocated provisions (which had not been recognised by AIB under IFRS). 108 33 Interest in Hibernian Life Holdings Limited Ark Life Assurance Company Limited The following table sets out the income and expense from long-term assurance business included in the income statement for the year ended 31 December 2005. Income and expense from Ark Life’s long-term assurance business Net interest income Other income Total operating income Increase in insurance and investment contract liabilities, and claims Total operating expenses Income before taxation Taxation Income after taxation Analysed as to: Continuing operations Discontinued operations 2005 € m 113 740 853 762 27 64 4 60 14 46 Some elements of the Ark Life business are being retained within the Group and this gives rise to the analysis outlined above between continuing operations and discontinued operations. Income after taxation of Ark Life amounting to € 4m was included within discontinued activities for the period to 30 January 2006. Balance sheet The assets and liabilities of Ark Life included in the consolidated balance sheet as at 31 December 2005 of the Group were as follows: Assets Loans and receivables to banks Assets held at fair value through profit or loss Property, plant and equipment Reinsurance assets Placings with Group companies Other assets Total assets Liabilities Investment contract liabilities Insurance contract liabilities Other liabilities Total liabilities Shareholders’ equity Total liabilities and shareholders’ equity 31 December 2005 € m 191 2,638 52 748 1,428 371 5,428 2,953 1,923 215 5,091 337 5,428 109 Notes to the accounts 33 Interests in Hibernian Life Holdings Limited (continued) Presentation in the Group balance sheet at 31 December 2005 Holdings of shares in Allied Irish Banks, p.l.c., (by the parent or subsidiary companies), for any reason, are deducted in arriving at shareholders’ equity. At 31 December 2005, shares in AIB with a value of € 77m were held within the long-term business funds to meet the liabilities to policyholder. Long-term assurance assets attributable to policyholder are presented in the Group balance sheet net of the carrying value of the shares in AIB held within the fund. Group shareholders’ funds have been reduced by a similar amount. As a result the assets of Ark Life, € 5,351m (being total assets of € 5,428m net of AIB shares of € 77m) were included in the Group balance sheet within the caption, “Disposal group and assets classified as held for sale”. Ark Life’s liabilities of € 5,091m were included in the liabilities caption, “Disposal group classified as held for sale”. Hibernian Life Holdings Limited The contribution of Hibernian Life Holdings Limited (“HLH”) from 30 January 2006 is included within share of results of associated undertakings as follows:- Share of income of HLH Amortisation of intangible assets Share of income before taxation Taxation attributable to policyholder returns Profit attributable to shareholders before taxation Taxation Included within associated undertakings 2006 € m 26 2 24 12 12 1 11 In addition to the income described above, the Group recognised fee income on the sale of life insurance and investment products amounting to € 31m for the year ended 31 December 2006 (2005: € 26m). The assets and liabilities of Hibernian Life Holdings Limited at 31 December 2006, accounted for in accordance with the accounting policies of the Group, and taking into account the acquisition adjustments, are set out below: 31 December 2006 € m 762 11,648 765 15 2,145 821 16,156 6,742 7,055 1,253 1,106 16,156 Summary of consolidated balance sheet Cash and placings with banks Financial investments Investment property Property, plant and equipment Reinsurance assets Other assets Total assets Investment contract liabilities Insurance contract liabilities Other liabilities Shareholders’ equity Total liabilities and shareholders’ equity 110 34 Investments in Group undertakings Allied Irish Banks, p.l.c. At 1 January Additions Transfer to interests in associated undertakings Disposals At 31 December At 31 December Credit institutions Other Total – all unquoted 2006 € m 2005 € m 271 1,156 (12) (7) 1,408 747 661 1,408 225 46 - - 271 42 229 271 The share in Group undertakings are included in the accounts on a historical cost basis. Investments in Group undertakings includes € 300m (2005: € Nil) of subordinated debt. Principal subsidiary undertakings incorporated in the Republic of Ireland AIB Capital Markets plc* AIB Corporate Finance Limited AIB Leasing Limited AIB Fund Management Limited AIB Investment Managers Limited AIB International Financial Services Limited Goodbody Holdings Limited AIB Mortgage Bank* AIB Debt Management Limited *Group interest is held directly by Allied Irish Banks, p.l.c. Nature of business Financial services Corporate finance Leasing Unit trust management Investment management International financial services Stockbroking and corporate finance Issue of Mortgage Covered Securities Financing and securities investment The above subsidiary undertakings are incorporated in the Republic of Ireland and are wholly-owned unless otherwise stated. The issued share capital of each undertaking is denominated in ordinary shares. All regulated banking entities are subject to regulations which require them to maintain capital ratios at agreed levels and so govern the availability of funds available for distribution. AIB Mortgage Bank AIB Mortgage Bank is a wholly owned subsidiary of Allied Irish Banks, p.l.c. regulated by the Central Bank and Financial Services Authority of Ireland. Its principal purpose is to issue mortgage covered securities for the purpose of financing loans secured on residential property in accordance with the Asset Covered Securities Act, 2001. On 13 February 2006, Allied Irish Banks, p.l.c. transferred its Irish branch originated residential mortgage business to AIB Mortgage Bank, amounting to € 13.6bn in mortgage loans. In March 2006 AIB Mortgage Bank launched a € 15 billion Mortgage Covered Securities Programme. As at 31 December 2006, the total amounts of principal outstanding in respect of mortgage covered securities issued was € 5.5bn. At the same date, the total amounts of principal outstanding in the cover assets pool including mortgage loans and cash was € 8.7bn. As at 31 December 2006, AIB Mortgage Bank had a Mortgage Backed Promissory Notes (“MBPN”) facility with the Central Bank and Financial Services Authority of Ireland, none of which was in use at the balance sheet date. This facility is referred to in more detail in note 39. 111 Notes to the accounts 34 Investments in Group undertakings (continued) Principal subsidiary undertakings incorporated outside the Republic of Ireland AIB Group (UK) p.l.c. trading as First Trust Bank in Northern Ireland trading as Allied Irish Bank (GB) in Great Britain Registered office: 4 Queen’s Square, Belfast, BT1 3DJ Nature of business Banking and financial services AIB Bank (CI) Limited* Registered office: AIB House, Grenville Street, St. Helier, Jersey, JE4 8WT Banking services Bank Zachodni WBK S.A. Registered office: Rynek 9/11, 50-950 Wroclaw, Poland (Ordinary shares of PLN 10 each - Group interest 70.47%) *Group interest is held directly by Allied Irish Banks, p.l.c. Banking and financial services The above subsidiary undertakings are wholly-owned unless otherwise stated.The registered office of each is located in the principal country of operation.The issued share capital of each undertaking is denominated in ordinary shares. In presenting details of the principal subsidiary undertakings, the exemption permitted by the European Communities (Credit Institutions: Accounts) Regulations, 1992, has been availed of and, in accordance with the regulations, Allied Irish Banks, p.l.c. will annex a full listing of subsidiary undertakings to its annual return to the Companies Registration Office. Guarantees given to subsidiaries by Allied Irish Banks, p.l.c. Each of the companies listed below, and consolidated into these accounts, have availed of the exemption from filing its individual accounts as set out in Section 17 of the Companies (Amendment) Act 1986. In accordance with the Act, Allied Irish Banks, p.l.c. has irrevocably guaranteed the liabilities of these subsidiaries. AIB Asset Management Holdings (Ireland) Limited AIB Alternative Investment Services Limited AIB Capital Management Holdings Limited AIB Capital Markets plc AIB Corporate Banking Limited AIB Corporate Finance Limited AIB Corporate Services Limited AIB Equity Capital Limited AIB Financial Consultants Limited AIB Fund Management Limited AIB I.F.S.C.H.D. Limited AIB International Consultants Limited AIB International Financial Services Limited AIB International Leasing Limited AIB Investment Managers Limited AIB Leasing Limited AIB Stockbrokers Limited AIB Services Limited AIB Venture Capital Limited Allied Combined Trust Limited Allied Irish Banks (Holdings & Investments) Limited Allied Irish Capital Management Limited Allied Irish Finance Limited Allied Irish Leasing Limited Allied Irish Nominees Limited Allied Irish Securities Limited Ark Life Nominees Limited 112 Allied Irish Securities (Ireland) Limited Ark Life Trustees Limited Co-Ordinated Trustees Limited Dhittier Limited Errol Limited Eyke Limited First Venture Fund Limited Goodbody Corporate Finance Goodbody Economic Consultants Limited Goodbody Financial Services Goodbody Holdings Limited Goodbody Pensioneer Trustees Limited Goodbody Alternative Investment Management Limited Goodbody Alternative Fund Management Limited Goodbody Stockbrokers Halderstone Limited Jib Ross Limited Kahn Holdings Lavworth Limited Percy Nominees Limited PPP Projects Limited Shamberg Limited Sillard Limited Skyraven Limited The Hire Purchase Company of Ireland Limited Webbing Ireland Limited 35 Intangible assets and goodwill Group At 1 January 2005 Additions Exchange translation adjustments Disposals At 31 December 2005 Additions Exchange translation adjustments Disposals At 31 December 2006 Amortisation and impairment losses At 1 January 2005 Amortisation for the year Impairment charge Exchange translation adjustments At 31 December 2005 Amortisation for the year Exchange translation adjustments Disposals At 31 December 2006 Net book value At 31 December 2005 At 31 December 2006 Goodwill € m Software € m Other € m Total € m 415 - 4 (17) 402 - (1) (2) 399 8 - 2 2 12 - - (2) 10 390 389 259 36 8 - 303 84 1 (1) 387 126 45 - 5 176 52 1 (1) 228 127 159 3 - - - 3 3 - - 6 3 - - - 3 1 - - 4 - 2 677 36 12 (17) 708 87 - (3) 792 137 45 2 7 191 53 1 (3) 242 517 550 The goodwill relates principally to the acquisition of the holding in Bank Zachodni WBK S.A. (“BZWBK”).The investment in BZWBK which is quoted on a recognised stock exchange has been assessed for impairment at 31 December 2006 and 2005.The market value at 31 December 2006 of the shareholding in BZWBK S.A. of € 3.0bn (2005: € 1.9bn) exceeds the carrying amount including goodwill of the investment by € 1.9bn (2005: € 0.9bn). The remaining goodwill amounts which relate to unquoted investments, have been assessed for impairment through discounting projected cash flows with the resultant impairment charge, if any, recognised in the period. Internally generated intangible assets under construction amounted to € 42m (2005: € 21m). Allied Irish Banks, p.l.c. Balance at 1 January Additions Balance at 31 December Amortisation Balance at 1 January Amortisation for period Balance at 31 December Net book value at 31 December Internally generated intangible assets under construction amounted to € 31m (2005: € 15m). Software Other € m € m 2006 Total € m 2005 Software € m 162 72 234 98 27 125 109 - 3 3 - 1 1 2 162 75 237 98 28 126 111 132 30 162 75 23 98 64 113 Notes to the accounts 36 Property, plant & equipment € m € m Freehold Long leasehold Property leasehold under 50 years € m Equipment Total € m € m Group Cost at 1 January 2006 Disposal of Group undertakings Transfers to assets held for sale Additions Disposals Exchange translation adjustments At 31 December 2006 Accumulated depreciation at 1 January 2006 Disposal of Group undertakings Depreciation charge for the year Disposals Exchange translation adjustments At 31 December 2006 Net book value At 31 December 2006 498 - (27) 31 (149) 2 355 96 - 13 (31) 1 79 276 99 - - 7 (25) - 81 18 - 2 (3) - 17 64 150 - - 10 - 1 161 95 - 11 - - 106 55 550 (1) - 96 (17) 2 630 382 (1) 61 (12) 2 432 198 1,297 (1) (27) 144 (191) 5 1,227 591 (1) 87 (46) 3 634 593 The net book value of property occupied by the Group for its own activities was € 370m. Allied Irish Banks, p.l.c. Cost at 1 January 2006 Transfers to assets held for sale Additions Disposals Exchange translation adjustments At 31 December 2006 Accumulated depreciation at 1 January 2006 Depreciation charge for the year Disposals Exchange translation adjustments At 31 December 2006 Net book value At 31 December 2006 Freehold Long leasehold € m € m Property leasehold under 50 years € m Equipment Total € m € m 312 (27) 30 (146) - 169 48 7 (31) - 24 145 87 - 5 (23) - 69 15 2 (3) - 14 55 62 - 4 - - 66 38 5 - - 43 23 300 - 74 (8) (1) 365 195 39 (3) (1) 230 135 761 (27) 113 (177) (1) 669 296 53 (37) (1) 311 358 The net book value of property occupied by the Allied Irish Banks, p.l.c. for its own activities was € 206m. 114 36 Property, plant & equipment (continued) € m € m Freehold Long leasehold Group Cost at 1 January 2005 Disposal/transfers of Group undertakings Additions Disposals Exchange translation adjustments At 31 December 2005 Accumulated depreciation at 1 January 2005 Disposal of Group undertakings Depreciation charge for the year Disposals Exchange translation adjustments At 31 December 2005 Net book value At 31 December 2005 537 (51) 21 (19) 10 498 90 - 16 (12) 2 96 402 93 - 7 (1) - 99 16 - 2 - - 18 81 Property leasehold under 50 years € m Equipment Total € m € m 139 (1) 8 - 4 150 85 - 8 - 2 95 55 517 (2) 64 (45) 16 550 350 (2) 57 (33) 10 382 168 1,286 (54) 100 (65) 30 1,297 541 (2) 83 (45) 14 591 706 The net book value of property occupied by the Group for its own activities was € 531m. Allied Irish Banks, p.l.c. Cost at 1 January 2005 Additions Disposals Exchange translation adjustments At 31 December 2005 Accumulated depreciation at 1 January 2005 Depreciation charge for the year Disposals Exchange translation adjustments At 31 December 2005 Net book value At 31 December 2005 Freehold € m Long leasehold € m Property leasehold under 50 years € m Equipment Total € m € m 306 19 (13) - 312 40 8 - - 48 264 81 6 - - 87 13 2 - - 15 72 56 4 - 2 62 34 4 - - 38 24 267 43 (10) - 300 169 32 (8) 2 195 105 710 72 (23) 2 761 256 46 (8) 2 296 465 The net book value of property occupied by Allied Irish Banks, p.l.c. for its own activities was € 360m. Property leased to others had a book value of € 7m (2005: € 7m). Included in the carrying amount of property and equipment is expenditure recognised for both property and equipment in the course of construction amounting to € 13m and € 17m respectively (2005: € 4m and € 6m). In Allied Irish Banks, p.l.c. these amounts are € 13m and € 10m respectively (2005: € 3m and € 5m). 115 Notes to the accounts 37 Deferred taxation Deferred tax assets: Provision for impairment of loans and receivables Amortised income Debt securities Retirement benefits Temporary difference on provisions for future commitments in relation to the funding of Icarom plc (under Administration) Cash flow hedges Other Total gross deferred tax assets Deferred tax liabilities: Assets leased to customers Assets used in the business Debt securities Cash flow hedges Total gross deferred tax liabilities Net deferred tax assets Represented on the balance sheet as follows: Deferred tax assets Deferred tax liabilities 2006 € m (64) (24) - (165) (8) (19) (45) (325) 9 33 27 - 69 (256) (256) - (256) Group 2005 € m Allied Irish Banks, p.l.c. 2005 € m 2006 € m (69) (31) - (221) (9) - (8) (338) 25 34 30 28 117 (221) (253) 32 (221) (11) (5) (10) (76) (8) (13) (52) (175) - 27 - - 27 (10) (14) (1) (97) (9) - (32) (163) - 25 - 24 49 (148) (114) (148) - (148) (114) - (114) For each of the years ended 31 December, 2006 and 2005 full provision has been made for capital allowances and other temporary differences. Analysis of movements in deferred taxation At 1 January IFRS transition adjustment Exchange translation and other adjustments Deferred tax through equity Income statement (note 16) At 31 December 2006 € m (221) - (21) (9) (5) (256) Group 2005 € m Allied Irish Banks, p.l.c. 2005 € m 2006 € m (176) 10 (11) (60) 16 (221) (114) - - (32) (2) (148) (110) 18 - (36) 14 (114) 116 37 Deferred taxation (continued) Net deferred tax assets of € 179m are expected to be recovered after more than 12 months; Allied Irish Banks, p.l.c. € 104m. Deferred tax assets have not been recognised in respect of tax losses amounting to € 41m (2005: € 49m); Allied Irish Banks, p.l.c. € Nil (2005: € Nil). Tax losses of € 5.3m expire in 2010 and € 0.4m expiring thereafter. There is no expiration date on the remaining € 35.3m. Deferred tax assets have not been recognised in respect of these items because it is not probable that future taxable profit will be available against which the Group can utilise the benefits. The net deferred tax asset on items recognised directly in equity amounted to € 157m (2005: € 163m); Allied Irish Banks, p.l.c. € 99m (2005: € 74m). 38 Disposal group and assets classified as held for sale On 30 January 2006, the previously announced venture with Aviva Group p.l.c for the manufacture and distribution of life and pensions products in the Republic of Ireland was completed (note 1). The transaction brought together Hibernian Life and Pensions Limited and Ark Life under a holding company Hibernian Life Holdings Limited of which AIB owns 24.99%. AIB has entered into an exclusive agreement to distribute the life and pensions products of the venture. Ark Life assets and liabilities were included in the balance sheet at 31 December 2005 as a disposal group classified as held for sale (note 33). In August 2006, the Group announced a programme for the sale and leaseback of branches. A sale and leaseback transaction of 25 branches in the Republic of Ireland has not been completed at 31 December 2006 and these branches are therefore held within the category “Disposal Group and assets classified as held for sale”.The sale and leaseback programme is an effective means of monetising assets to generate capital to support the growth of the business.The premises concerned will continue to operate as AIB branches and there will be no impact on the staff who work there or on the services provided to customers.The branches held for sale are recorded within Group business segment assets. 117 Notes to the accounts 39 Deposits by banks Securities sold under agreements to repurchase Other borrowings from banks Of which: Domestic offices Foreign offices With agreed maturity dates or periods of notice, by remaining maturity: Over 5 years 5 years or less but over 1 year 1 year or less but over 3 months 3 months or less but not repayable on demand Repayable on demand Due to subsidiary undertakings Amounts include: Due to associated undertakings 2006 € m 12,523 20,910 33,433 30,727 2,706 33,433 17 631 3,192 28,537 32,377 1,056 33,433 Group 2005 € m 11,038 18,291 29,329 27,401 1,928 29,329 53 517 2,271 25,843 28,684 645 29,329 Allied Irish Banks, p.l.c. 2005 € m 2006 € m 12,204 49,655 61,859 10,785 33,046 43,831 3 482 3,149 28,346 31,980 669 32,649 29,210 61,859 7 460 2,114 25,547 28,128 369 28,497 15,334 43,831 - - - - Securities sold under agreements to repurchase are secured by Irish Government stock, US Treasury and US Government agency securities and mature within three months. The aggregate market value of all securities sold under agreements to repurchase did not exceed 10% of total assets and the amount at risk with any individual counterparty or group of related counterparties did not exceed 10% of total stockholders’ equity. The carrying amount of financial assets pledged as security for liabilities amounted to € 13,021m (2005: € 11,265m); Allied Irish Banks, p.l.c. € 13,005m (2005: € 11,012m). At 31 December 2006 no deposits by credit institutions are secured by way of charge to the Central Bank and Financial Services Authority of Ireland (“CBFSAI”) . At 31 December 2005 € 930m of the deposits by credit institutions comprised the bank’s obligations to the CBFSAI under the terms of the Mortgage Backed Promissory Note (“MBPN”) programme. These obligations had been secured by way of a first floating charge to the CBFSAI over all its right, title, interest and benefit, in € 1,193m of loans and receivables to customers. Otherwise than with the prior written consent of the CBFSAI, the Group had pledged under the terms of the floating charge to maintain the assets so charged free from any encumbrance and otherwise than in the ordinary course of business not to sell, transfer, lend or otherwise dispose of any part of the charged assets. 118 40 Customer accounts Current accounts Demand deposits Time deposits Securities sold under agreements to repurchase Other short-term borrowings Of which: Non-interest bearing current accounts Domestic offices Foreign offices Interest bearing deposits, current accounts and short-term borrowings Domestic offices Foreign offices Analysed by remaining maturity: Over 5 years 5 years or less but over 1 year 1 year or less but over 3 months 3 months or less but not repayable on demand Repayable on demand Due to subsidiary undertakings Amounts include: Due to associated undertakings 2006 € m 25,151 8,924 33,831 67,906 1 6,968 6,969 Group 2005 € m 20,909 8,013 28,118 57,040 6 5,534 5,540 Allied Irish Banks, p.l.c. 2005 € m 2006 € m 15,052 6,760 23,038 44,850 - 6,968 6,968 13,068 6,018 18,046 37,132 - 5,534 5,534 74,875 62,580 51,818 42,666 8,715 2,632 7,816 2,086 38,844 24,684 74,875 301 1,901 4,774 34,520 41,496 33,379 74,875 32,977 19,701 62,580 200 2,308 3,573 28,130 34,211 28,369 62,580 297 1,531 3,274 22,623 27,725 21,816 49,541 2,277 51,818 150 1,851 2,355 17,083 21,439 19,074 40,513 2,153 42,666 55 38 32 7 119 Notes to the accounts 41 Trading portfolio financial liabilities Debt securities Government securities Corporate listed Equity instruments - listed 2006 € m 184 1 185 6 191 Group 2005 € m Allied Irish Banks, p.l.c. 2005 € m 2006 € m 219 2 221 19 240 183 1 184 - 184 219 2 221 9 230 At 31 December 2006 and 31 December 2005, the debt securities within trading portfolio financial liabilities had a residual maturity 2006 € m 10,456 5,648 16,104 1,912 10,515 12,427 28,531 945 10,904 3,565 690 16,104 154 3,213 9,060 12,427 28,531 Group 2005 € m 6,656 209 6,865 718 10,028 10,746 17,611 1,298 5,494 51 22 Allied Irish Banks, p.l.c. 2005 € m 2006 € m 10,456 - 10,456 - 10,515 10,515 20,971 2 6,355 3,425 674 6,656 - 6,656 - 10,028 10,028 16,684 1,250 5,406 - - 6,865 10,456 6,656 1,578 3,402 5,766 10,746 17,611 154 3,050 7,311 10,515 20,971 1,578 3,388 5,062 10,028 16,684 of less than one year. 42 Debt securities in issue Bonds and medium term notes: European medium term note programme Bonds and other medium term notes Other debt securities in issue: Commercial paper Commercial certificates of deposit Analysed by remaining maturity Bonds and medium term notes: Over 5 years 5 years or less but over 1 year 1 year or less but over 3 months 3 months or less Other debt securities in issue: 5 years or less but over 1 year 1 year or less but over 3 months 3 months or less 120 43 Other liabilities Notes in circulation Items in transit Creditors Future commitments in relation to the funding of Icarom(1) Other 2006 € m 501 308 198 60 690 Group 2005 € m Allied Irish Banks, p.l.c. 2005 € m 2006 € m 484 332 99 69 615 - 36 123 60 359 578 - 35 44 69 331 479 1,757 1,599 (1)The provision represents the present value of the cost of the future commitments arising under the 1992 agreement in relation to the funding of Icarom. A discount rate of 3.94% was applied in the year ended 31 December 2006 (2005: 3.21%) in discounting the cost of the future commitments arising under this agreement.The undiscounted amount was € 69m (2005: € 78m).The unwinding of the discount on the provision amounted to € 2.3m (2005: € 2.3m). 44 Provisions for liabilities and commitments Liabilities and commitments € m Other provisions € m Total € m Group At 1 January 2006 Exchange translation adjustment Amounts charged to income statement Amounts written back to income statement Provisions utilised At 31 December 2006 Allied Irish Banks, p.l.c. At 1 January 2006 Exchange translation adjustments Amounts charged to income statement Amounts written back to income statement Provisions utilised At 31 December 2006 Group At 1 January 2005 Exchange translation adjustments Amounts charged to income statement Amounts written back to income statement Provisions utilised At 31 December 2005 Allied Irish Banks, p.l.c. At 1 January 2005 Exchange translation adjustments Amounts charged to income statement Amounts written back to income statement Provisions utilised At 31 December 2005 61 - 2 (17) (8) 38 57 - 2 (16) (8) 35 58 - 28 (8) (17) 61 56 - 24 (5) (18) 57 79 - 24 (13) (35) 55 62 - 18 (10) (29) 41 64 1 47 (15) (18) 79 44 1 36 (11) (8) 62 The provisions recognised within this caption include, where applicable, amounts in respect of: onerous lease contracts; restructuring and re-organisation costs; repayments to customers; legal claims and other contingencies including provisions in respect of losses expected under off-balance sheet items. The provisions expected to be settled within one year amount to € 56m (2005: € 67m). 140 - 26 (30) (43) 93 119 - 20 (26) (37) 76 122 1 75 (23) (35) 140 100 1 60 (16) (26) 119 121 Notes to the accounts 45 Subordinated liabilities and other capital instruments Allied Irish Banks, p.l.c. Undated loan capital Dated loan capital US $250m non-cumulative preference shares Subsidiary undertakings Perpetual preferred securities Undated loan capital Allied Irish Banks, p.l.c. US $100m Floating Rate Primary Capital Perpetual Notes € 200m Fixed Rate Perpetual Subordinated Notes Stg £400m Perpetual Callable Step-Up Subordinated Notes Subsidiary undertakings Stg £350m Fixed Rate/Floating Rate Guaranteed Non-Voting Non-cumulative Perpetual Preferred Securities € 500m Fixed Rate/Floating Rate Guaranteed Non-Voting Non-cumulative Perpetual Preferred Securities Dated loan capital Allied Irish Banks, p.l.c. European Medium Term Note Programme: € 200m Floating Rate Notes due June 2013 US $400m Floating Rate Notes due July 2015 € 400m Floating Rate Notes due March 2015 € 500m Callable Subordinated Step-up Floating Rate Notes due 2017 Stg £500m Callable Subordinated Fixed/Floating Rate Notes due March 2025 Stg £350m Fixed Rate Notes due November 2030 The dated loan capital outstanding is repayable as follows: In one year or less Between 1 and 2 years Between 2 and 5 years In 5 years or more 2006 € m 871 2,668 189 3,728 1,016 4,744 76 199 596 871 519 497 1,016 1,887 200 303 400 499 745 521 2005 € m 868 2,678 210 3,756 - 3,756 85 199 584 868 - - - 868 200 338 400 499 730 511 2,668 2,678 2006 € m - - - 2,668 2,668 2005 € m – – – 2,678 2,678 The loan capital of the Group is unsecured and is subordinated in right of payment to the ordinary creditors, including depositors, of the Group. 122 45 Subordinated liabilities and other capital instruments (continued) Undated loan capital The US$ 100m Floating Rate Primary Capital Perpetual Notes have no final maturity but may be redeemed at par at the option of the Bank, with the prior approval of the Central Bank and Financial Services Authority of Ireland (“the Financial Regulator”). Interest is payable quarterly on the US$ 100m Floating Rate Primary Capital Perpetual Notes.The € 200m Fixed Rate Perpetual Subordinated Notes, with interest payable annually, have no final maturity but may be redeemed at the option of the Bank, with the prior approval of the Financial Regulator, on each coupon payment date on or after 3 August 2009. The Stg £ 400m Perpetual Callable Step-Up Subordinated Notes with interest payable annually up to 1 September 2015, and with interest payable quarterly thereafter, have no final maturity but may be redeemed at the option of the Bank, with the prior approval of the Financial Regulator, on 1 September 2015 and every interest payment date thereafter. Perpetual preferred securities In June 2006, Fixed Rate/Floating Rate Guaranteed Non-voting Non-cumulative Perpetual Preferred Securities (“Preferred Securities”) were issued in the amount of Stg£ 350,000,000 and € 500,000,000 through Limited Partnerships. The Preferred Securities were issued at par and have the benefit of a subordinated guarantee of Allied Irish Banks, p.l.c. (“AIB”). The Preferred Securities have no fixed final redemption date and the holders have no rights to call for the redemption of the Preferred Securities. The substitution of the Preferred Securities with fully paid non-cumulative preference shares issued by the Guarantor is subject, in particular cases, to certain events and conditions that are beyond the control of both the Guarantor and the holders of the Preferred Securities. The Preferred Securities are redeemable in whole but not in part at the option of the general partner and with the agreement of the Financial Regulator (i) upon the occurrence of certain events or (ii) on or after 14 June 2016 for the Stg £ 350,000,000 Preferred Securities and 16 June 2016 for the € 500,000,000 Preferred Securities. Distributions on the Preferred Securities are non-cumulative. The distributions on the Stg £ 350,000,000 Preferred Securities will be payable at a rate of 6.271% semi-annually until 14 June 2016 and thereafter at a rate of 1.23% per annum above 3 month LIBOR, payable quarterly. The distributions on the € 500,000,000 Preferred Securities will be payable at a rate of 5.142% per annum up to 16 June 2016 and thereafter at a rate of 1.98% per annum above 3 month EURIBOR, payable quarterly. In the event of the dissolution of the Limited Partnerships, holders of Preferred Securities will be entitled to receive a liquidation preference in an amount equal to the distributions that those holders would have received in a dissolution of AIB at that time, if they had held, instead of the Preferred Securities, non-cumulative preference shares issued directly by AIB, having the same liquidation preference as the Preferred Securities, and ranking junior to all liabilities of AIB including subordinated liabilities. Dated loan capital The European Medium Term Note Programme is subordinated in right of payment to the ordinary creditors, including depositors, of the Bank.The € 200m Floating Rate Notes, with interest payable quarterly, may be redeemed, in whole but not in part, on 12 June 2008 and on each interest payment date thereafter. The US$ 400m Floating Rate Notes, with interest payable quarterly, may be redeemed, in whole but not in part, on any interest payment date falling in or after July 2010. The € 400m Floating Rate Notes with interest payable quarterly, may be redeemed, in whole but not in part, on any interest payment date falling in or after March 2010. The € 500m Callable Subordinated Step-Up Floating Rate Notes with interest payable quarterly may be redeemed in whole but not in part on any interest payment date falling in or after 24 October 2012. The Stg £ 500m Subordinated Callable Fixed/Floating Rate Notes, with interest payable annually, up to 10 March 2020 and with interest payable quarterly from 10 June 2020 thereafter may be redeemed, in whole but not in part on any interest payment date falling in or after 10 March 2025. The Stg £ 350m Fixed Rate Notes, with interest payable annually in arrears on 26 November in each year, may be redeemed, in whole but not in part, on the 26 November 2025 and on each interest payment date thereafter. In all cases, redemption prior to maturity is subject to the necessary prior approval of the Financial Regulator.There is no exchange exposure as the proceeds of these notes are retained in their respective currencies. 123 Notes to the accounts 45 Subordinated liabilities and other capital instruments (continued) US$ 250m non-cumulative preference shares In 1998, 250,000 non-cumulative preference shares of US$ 25 each were issued at a price of US$ 995.16 per share raising US$ 248.8m before expenses.The holders of the non-cumulative preference shares are entitled to a non-cumulative preferential dividend, payable quarterly in arrears, at a floating rate equal to 3 month dollar LIBOR plus 0.875% on the liquidation preference amount of US$ 1,000 per share.The preference shares are redeemable at the option of the Bank, and with the agreement of the Financial Regulator, on or after 15 July 2008 (i) in whole or in part or (ii) prior to that date in certain circumstances in whole, but not in part. In each case, the preference shares will be redeemed at a price equal to US$ 1,000 per share (consisting of a redemption price of US$ 995.16 plus a special dividend of US$ 4.84 per share), plus accrued dividends. 46 Share capital Ordinary share capital Ordinary shares of € 0.32 each Authorised: Issued : 2006 € m 2005 € m 1,160 million shares (2005: 1,160 million) 918 million shares (2005: 918 million) 294 294 Movements in ordinary share capital There were no movements in issued ordinary shares during 2006 or 2005. Preference share capital The company has authorisation from shareholders to issue preference share capital as follows: 20m non-cumulative preference shares of US$ 25 each 200m non-cumulative preference shares of € 1.27 each 200m non-cumulative preference shares of Stg £ 1 each 200m non-cumulative preference shares of Yen 175 each 47 Own shares Share repurchases At the 2006 Annual General Meeting, shareholders granted authority for the Company, or any subsidiary, to make market purchases of up to 91.8 million ordinary shares of the Company, subject to the terms and conditions set out in the relevant resolution. During the year ended 31 December 2006, the Company purchased 5.6 million ordinary shares, previously held by AIB Finance Ltd., a subsidiary of the Company, at a market price of € 22.90 per share. The 5.6 million shares in question will be held by AIB as Treasury Shares. Also during the year, ordinary shares previously purchased under a similar authority, and held as Treasury Shares, were re-issued as follows: At 1 January Shares re-issued under: AIB Share Option Schemes Allfirst Financial Stock Option Plan AIB Approved Employee Profit Sharing Schemes Purchase of shares held by subsidiary company At 31 December 2006 2005 43,539,597 48,889,789 (4,346,120) (35,000) (1,980,398) (6,361,518) 5,600,000 (3,487,950) (26,400) (1,835,842) (5,350,192) - 42,778,079 43,539,597 124 47 Own shares (continued) The cost of share repurchases less proceeds of shares reissued has been charged to the profit and loss account reserve. The shares issued during 2006 to participants in the AIB share option schemes were issued at prices of € 10.02, € 11.98 and € 13.30 per share.The consideration received for these shares was € 48.1m. The consideration received for the shares issued during 2006 on the exercise of Dauphin converted options to participants in the Allfirst Financial Inc. Stock Option Plan was € 0.2m. During 2006, the Company re-issued from its pool of Treasury Shares 1,980,398 ordinary shares to the Trustees of the employees’ profit sharing schemes, at € 19.60 per share.The consideration received for these shares was € 38.8m. Allfirst Financial Inc. Stock Option Plan Under the terms of the Agreement and Plan of Merger between the Company, First Maryland Bancorp (subsequently renamed “Allfirst”) and Dauphin Deposit Corporation (“Dauphin”, subsequently renamed “Allfirst”), approved by shareholders at the 1997 Annual General Meeting, options to purchase Dauphin shares which were outstanding immediately prior to the merger were converted, at the holders’ elections, into either cash or options to purchase a similar number of AIB American Depositary Shares (“converted options”). On 1 April 2003, the merger of Allfirst Financial Inc. (“Allfirst”) with M&T Bank Corporation (“M&T”) was completed, pursuant to the Agreement and Plan of Reorganisation dated 26 September 2002 by and among the Company, Allfirst and M&T. Under the terms of that Agreement, Dauphin converted options outstanding immediately prior to the merger (over 321,598 ordinary shares) remained in force. At 31 December 2006, converted options were outstanding over 45,598 ordinary shares (2005: 80,598 ordinary shares). Employee share schemes and trusts The Group sponsors a number of employee share plans whereby purchases of shares are made in the open market to satisfy commitments under the schemes. At 31 December 2006, 2.0 million shares (2005: 2.2 million) were held by trustees with a book value of € 23.2m (2005: € 26.0m), and a market value of € 44.6m (2005: € 39.9m).The book value is deducted from the profit and loss account reserve while the shares continue to be held by the Group. The Group sponsors SAYE schemes for eligible employees in the UK, the Isle of Man and Channel Islands.The trustees of the schemes have borrowed funds from Group companies, interest free, to enable them to purchase Allied Irish Banks, p.l.c. ordinary shares in the open market.These shares are used to satisfy commitments arising under the schemes.The trustees receive dividends on the shares which are used to meet the expenses.The cost of providing these shares is charged to the profit and loss account on a systematic basis over the period that the employees are expected to benefit. At 31 December 2006, 1.4 million shares (2005: 1.4 million) were held by the trustees with a book value of € 18.3m (2005: € 17.9m) and a market value of € 31.3m (2005: € 25.1m). In 2001, the AIB Group Employee Share Trust was established to satisfy commitments arising under the AIB Group Long-Term Incentive Plan (LTIP). Funds were provided to the trustees to enable them to purchase Allied Irish Banks, p.l.c. ordinary shares in the open market. The trustees have waived their entitlement to dividends. At 31 December 2006, 0.2 million shares (2005: 0.2 million) were held by the trustees with a book value of € 1.3m (2005: € 1.3m) and a market value of € 4.5m (2005: € 3.6m). Performance Share Plan Prior to its disposal to M&T Bank Corporation, Allfirst Financial, Inc. sponsored the Allfirst Stock Option Plans, for the benefit of key employees of Allfirst. At 31 December 2002, Allfirst had lent US$ 178m to a trust to enable it to purchase Allied Irish Banks, p.l.c. ordinary shares in the form of American Depositary Shares in the open market.The shares purchased are used to satisfy options which have been granted to Allfirst employees. Proceeds of option exercises are used to repay the loan to the trust. Under the terms of the trust, the trustees receive dividends on the shares which are used to meet the expenses of the trust. A similar scheme operated for certain eligible employees of AIB’s US operations. At 31 December 2006, 0.4 million (2005: 0.6 million) ordinary shares were held by the trust with a cost of € 3.6m (2005: € 6.7m) and a market value of € 8.8m (2005: € 11.1m). 125 Notes to the accounts 47 Own shares (continued) Subsidiary companies Certain subsidiary companies hold shares in AIB for customer facilitation and in the normal course of business. At 31 December 2006, 0.3 million shares (2005: 4.5 million) with a book and market value of € 6.6m (2005: € 81.6m) were held by subsidiary companies. The accounting treatment is not intended to affect the legal characterisation of the transaction or to change the situation at law achieved by the parties to it.Thus, the inclusion of the shares as a deduction against shareholders’ funds on the Group balance sheet does not imply that they have been purchased by the company as a matter of law. 48 Other equity interests In February 2001, Reserve Capital Instruments (“RCIs”) of € 500m were issued by Allied Irish Banks, p.l.c. at an issue price of 100.069%.The RCIs are perpetual securities and have no maturity date.The RCIs are redeemable, in whole but not in part, at the option of the Bank and with the agreement of the Financial Regulator (i) upon the occurrence of certain events, or (ii) on or after 28 February 2011, an authorised officer having reported to the Trustees within the previous six months that a solvency condition is met. The RCIs bear interest at a rate of 7.50% per annum from (and including) 5 February 2001 to (but excluding) 28 February 2011 and thereafter at 3.33% per annum above three month EURIBOR, reset quarterly. The rights and claims of the RCI holders and the coupon holders are subordinated to the claims of the senior creditors and the senior subordinated creditors of the issuer. In the event of a winding up of the issuer, the RCI holders will rank pari passu with the holders of the classes of preference shares (if any) from time to time issued by the issuer and in priority to all other shareholders. 49 Minority interests in subsidiaries Equity interest in subsidiaries Non-cumulative Perpetual Preferred Securities 2006 € m 317 990 2005 € m 258 990 1,307 1,248 Non-cumulative Perpetual Preferred Securities In December 2004, Fixed Rate/Floating Rate Guaranteed Non-voting Non-cumulative Perpetual Preferred Securities (“Preferred Securities”) in the amount of € 1,000,000,000 were issued through a Limited Partnership.The Preferred Securities were issued at par and have the benefit of a subordinated guarantee of Allied Irish Banks, p.l.c. (“AIB”).The Preferred Securities have no fixed final redemption date and the holders have no rights to call for the redemption of the Preferred Securities. The Preferred Securities are redeemable in whole but not in part at the option of the general partner and with the agreement of the Financial Regulator (i) upon the occurrence of certain events, or (ii) on or after 17 December 2014, subject to the provisions of the Limited Partnership Act, 1907. Distributions on the Preferred Securities are non-cumulative.The distributions will be payable at a rate of 4.781% per annum up to 17 December 2014 and thereafter at the rate of 1.10% per annum above 3 month EURIBOR, reset quarterly.The discretion of the Board of Directors of AIB to resolve that a distribution should not be paid is unfettered. In the event of the dissolution of the Limited Partnership, holders of Preferred Securities will be entitled to receive a liquidation preference in an amount equal to the distributions that those holders would have received in a dissolution of AIB at that time, if they had held, instead of the Preferred Securities, non-cumulative preference shares issued directly by AIB, having the same liquidation preference as the Preferred Securities, and ranking junior to all liabilities of AIB including subordinated liabilities. 126 50 Memorandum items: contingent liabilities and commitments In the normal course of business, the Group is a party to financial instruments with off-balance sheet risk to meet the financing needs of customers. These instruments involve, to varying degrees, elements of credit risk which are not reflected in the consolidated balance sheet. Credit risk is defined as the possibility of sustaining a loss because the other party to a financial instrument fails to perform in accordance with the terms of the contract. The Group’s maximum exposure to credit loss under contingent liabilities and commitments to extend credit, in the event of non-performance by the other party where all counterclaims, collateral or security prove valueless, is represented by the contractual amounts of those instruments. The risk weighted amount is obtained by applying credit conversion factors and counterparty risk weightings in accordance with the Financial Regulator guidelines implementing the EC Own Funds and Solvency Ratio Directives. The Group uses the same credit control and risk management policies in undertaking off-balance sheet commitments as it does for on balance sheet lending. The following tables give, for the Group and Allied Irish Banks, p.l.c., the nominal or contract amounts and the risk weighted credit equivalent of contingent liabilities and commitments. Group Contingent liabilities Guarantees and assets pledged as collateral security: Guarantees and irrevocable letters of credit Other contingent liabilities Commitments Documentary credits and short-term trade-related transactions Undrawn note issuance and revolving underwriting facilities Undrawn formal standby facilities, credit lines and other commitments to lend: Less than 1 year(1) 1 year and over Contract amount € m 2006 Risk weighted amount € m Contract amount € m 2005 Risk weighted amount € m 5,902 1,191 7,093 314 145 10,613 12,984 24,056 31,149 5,675 537 6,212 112 67 - 6,475 6,654 12,866 7,157 1,396 8,553 297 173 6,579 12,509 19,558 28,111 7,142 982 8,124 111 86 - 6,223 6,420 14,544 (1)Undrawn loan commitments which are unconditionally cancellable at any time or which have a maturity of less than one year have a risk weighting of zero. Concentration of exposure Republic of Ireland United States of America United Kingdom Poland Rest of the world Contingent liabilities 2006 2005 € m € m Commitments 2005 € m 2006 € m 2,345 3,211 1,470 67 - 7,093 3,860 3,366 1,287 40 - 8,553 12,819 3,417 6,010 1,777 33 9,165 3,007 6,069 1,237 80 24,056 19,558 127 Notes to the accounts 50 Memorandum items: contingent liabilities and commitments (continued) Allied Irish Banks, p.l.c. Contingent liabilities Guarantees and irrevocable letters of credit Other contingent liabilities Commitments Documentary credits and short-term trade-related transactions Undrawn note issuance and revolving underwriting facilities Undrawn formal standby facilities, credit lines and other commitments to lend: Less than 1 year(1) 1 year and over Contract amount € m 2006 Risk weighted amount € m 4,904 927 5,831 115 14 8,089 10,278 18,496 24,327 4,687 412 5,099 23 1 - 5,123 5,147 10,246 Contract amount € m 6,384 1,223 7,607 107 11 4,409 10,528 15,055 22,662 2005 Risk weighted amount € m 6,384 888 7,272 21 6 - 5,238 5,265 12,537 (1)Undrawn loan commitments which are unconditionally cancellable at any time or which have a maturity of less than one year have a risk weighting of zero. There exists a contingent liability to repay in whole or in part grants received on equipment leased to customers if certain events set out in the agreements occur. Allied Irish Banks, p.l.c. has given guarantees in respect of the liabilities of certain of its subsidiaries and has also given guarantees to the satisfaction of the relevant regulatory authorities for the protection of the depositors of certain of its banking subsidiaries in the various jurisdictions in which such subsidiaries operate. Following the foreign exchange pricing issue in 2004, Allied Irish Banks, p.l.c. agreed a management action plan with the Financial Regulator which included:- the introduction of a speak up policy as an additional channel to help staff raise concerns; the improvement and simplification of product delivery processes; and the strengthening of enterprise-wide quality assurance, risk and compliance functions. On 27 September 2006 Allied Irish Banks, p.l.c. announced that following a comprehensive review of products and services with the purpose of identifying any shortcomings or issues and correcting them appropriately, a range of issues under foreign exchange and other headings were identified.The bank stated that most of these were dealt with and restitution, where appropriate, had been or would be made and that it continued to deal with the Financial Regulator in this regard.The bank further stated that it had completed investigations into two major issues - the application of incorrect margins or overcharging on foreign exchange transactions in the early 1990s and other instances related to interest overcharging which arose in the late 1980s. In relation to all of these matters, the bank announced that payment of restitution to customers, where it had been possible to identify the amount, had been or would be made. This amounted to € 11m. Where identification was not possible, it was agreed with the Financial Regulator that a payment of € 20.6m would be made to charity.This amount has since been paid. Except as set out below, AIB Group is not, nor has been, involved in, nor are there, so far as the Company is aware, pending or threatened by or against AIB Group any legal or arbitration proceedings which may have, or have had during the previous twelve months, a significant effect on the financial position of AIB Group. 128 50 Memorandum items: contingent liabilities and commitments (continued) Class action and purported shareholder derivative action On 5 March, 2002 and on 24 April, 2002, separate class action lawsuits under the Securities Exchange Act, 1934 of the United States were filed in the United States District Court for the Southern District of New York against AIB, Allfirst and certain serving and past officers and directors of Allfirst and its subsidiaries, seeking compensatory damages, legal fees and other costs and expenses relating to alleged misrepresentations in filings of AIB and Allfirst. On 3 May, 2002, a motion to consolidate both cases and to appoint a lead plaintiff was filed with the Court. On 7 December, 2004 the Court granted this motion. In accordance with the direction of the Court, the plaintiffs filed an amended and consolidated complaint on 7 February, 2005. Certain of the defendants (including AIB and Allfirst) filed a motion to dismiss the consolidated amended complaint on 8 April, 2005. In December 2005 a settlement was reached, under which all claims are to be dismissed without any admission of liability or wrongdoing by any defendant. The class of security holders will receive a cash payment of US$ 2.5 million, out of which the Court will be asked to award Attorneys’ fees to class counsel. On 17 July, 2006 the Court approved the settlement. On 13 May, 2002, a purported shareholder derivative action was filed in the Circuit Court for Baltimore City, Maryland. A holder of AIB American Depositary Shares purported to sue certain present and former directors and officers of Allfirst Bank on behalf of AIB, alleging those persons were liable for the foreign exchange trading losses. No relief was sought in the purported derivative action against AIB, Allfirst or Allfirst Bank. On 30 December, 2002, the Court dismissed the action. On 10 January, 2003, the plaintiffs filed a motion seeking to have the Court amend or revise the judgement, or to be granted leave to file an amended complaint.This was dismissed on 3 March, 2003.The plaintiffs filed a second such motion on 17 March, 2003.The Court dismissed this on 4 April, 2003. On 20 June, 2003, the plaintiffs’ petition to bypass the Maryland Court of Special Appeals and appeal directly to the Maryland Court of Appeals was denied by the Maryland Court of Appeals.The plaintiffs’ appeal to the Maryland Court of Special Appeals was argued on 12 January, 2004. On 3 December, 2004 the Maryland Court of Special Appeals affirmed the dismissal of the action. On 21 January, 2005, the plaintiff petitioned the Maryland Court of Appeals to hear an appeal from this decision. Oral argument on this appeal was heard on 1 September, 2005 and judgment delivered on 13 December, 2005. By a vote of six to one, the Court upheld the judgment of the Court of Special Appeals affirming the dismissal of the action. On 11 January, 2006 the Attorneys for the Plaintiff filed a motion asking the Court of Appeals to reconsider its decision. On 6 February, 2006 the Court of Appeal dismissed this motion. 51 Fair value of financial instruments The term “financial instruments” includes both financial assets and financial liabilities and also derivatives.The fair value of a financial instrument is the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm’s length transaction. Fair value is based upon quoted market prices where available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar instruments and adjusted for differences between the quoted instrument and the instrument being valued. In certain cases, including some lendings to customers, where there are no ready markets, various techniques have been used to estimate the fair value of the instruments.These estimates are subjective in nature and involve uncertainties and matters of significant judgement and therefore cannot be determined with precision. Readers of these financial statements are advised to use caution when using the data to evaluate the Group’s financial position or to make comparisons with other institutions. Fair value information is not provided for certain financial instruments or for items that do not meet the definition of a financial instrument.These items include short-term debtors and creditors, intangible assets such as the value of the branch network and the long-term relationships with depositors, premises and equipment and shareholders’ equity.These items are material and accordingly, the fair value information presented does not purport to represent, nor should it be construed to represent, the underlying value of the Group as a going concern at 31 December 2006. 129 Notes to the accounts 51 Fair value of financial instruments (continued) The following table gives details of the carrying amounts and fair values of financial instruments of the Group at 31 December 2006 and 2005. Assets Trading financial instruments(1) Trading portfolio financial assets Trading derivative financial instruments Non-trading financial instruments Cash and balances at central banks(1) Treasury bills and other eligible bills Items in course of collection(1) Loans and receivables to banks(2) Loans and receivables to customers(2) Financial investments available for sale Hedging derivative financial instruments Liabilities Trading financial instruments Trading portfolio financial liabilities Trading derivative financial instruments Non-trading financial instruments Deposits by banks Customer accounts Debt securities in issue Hedging derivative financial instruments Subordinated liabilities and other capital instruments Carrying amount € m 2006 Fair value € m Carrying amount € m 2005 Fair value € m 8,953 2,470 8,953 2,470 10,113 1,849 10,113 1,849 989 196 527 12,900 107,115 19,665 420 989 196 527 12,913 107,068 19,665 420 742 201 402 7,129 85,232 16,864 590 742 201 402 7,129 85,290 16,864 590 191 2,382 191 2,382 240 1,779 240 1,779 33,433 74,875 28,531 149 4,744 33,431 74,836 28,415 149 4,724 29,329 62,580 17,611 188 3,756 29,328 62,604 17,609 188 3,859 (1)The fair value of these financial instruments is considered equal to the carrying value.These instruments are either carried at market value or have minimal credit losses. (2)The carrying values are net of the provisions for impairment and related unearned income. The following methods and assumptions were used in estimating the fair value of financial instruments. Trading portfolio financial assets/liabilities Trading portfolio financial assets/liabilities are measured at fair value by reference to quoted market prices where available. Loans and receivables to banks and loans and receivables to customers The fair value of money market funds and loans and receivables to banks was estimated using discounted cash flows applying either market rates, where practicable, or rates currently offered by other financial institutions for placings with similar characteristics. The Group provides lending facilities of varying rates and maturities to corporate and personal customers. Valuation techniques including, using recent arm’s length market transactions; reference to fair value of another similar instrument; discounted cash flow analysis; and option pricing models are employed, as considered appropriate, in estimating the fair value of loans.Where secondary market prices were available, these were used.The carrying amount of variable rate loans was considered to be at market value if there was no significant change in the credit risk of the borrower.The fair value of fixed rate loans was calculated by discounting expected cash flows using discount rates that reflected the credit and interest rate risk in the portfolio. 130 51 Fair value of financial instruments (continued) Financial investments available for sale The fair value of listed financial investments is based on market prices received from external pricing services or bid quotations received from external securities dealers.The estimated value of unlisted financial investments is based on the anticipated future cashflows arising from these items. Deposits by banks, customer accounts and debt securities in issue The fair value of current accounts and deposit liabilities payable on demand is equal to their book value.The fair value of all other deposits and other borrowings is estimated using discounted cash flows applying either market rates, where applicable, or interest rates currently offered by the Group. Subordinated liabilities and other capital instruments The estimated fair value of subordinated liabilities is based upon quoted market rates. Commitments pertaining to credit-related instruments Details of the various credit-related commitments entered into by the Group and other off-balance sheet financial guarantees are included in note 50. Fees for these instruments may be billed in advance or in arrears on an annual, quarterly or monthly basis. In addition, the fees charged vary on the basis of instrument type and associated credit risk. As a result it is not considered practicable to estimate the fair value of these instruments because each customer relationship would have to be separately evaluated. Derivative financial instruments Derivatives used for trading purposes are marked to market using independent prices and are included in the consolidated balance sheet at 31 December 2006 and 2005. The Group uses various derivatives, designated as hedges, to manage its exposure to fluctuations in interest rates.The fair value of these instruments is estimated using market prices or pricing models consistent with the methods used for valuing similar instruments used for trading purposes. Details of derivatives in place, including fair values, are included in note 24. 52 Interest rate sensitivity The net interest rate sensitivity of the Group at 31 December 2006 and 2005 is illustrated in the tables below. The tables set out details of those assets and liabilities whose values are subject to change as interest rates change within each contractual repricing time period. Details regarding assets and liabilities which are not sensitive to interest rate movements are also included.The tables show the sensitivity of the balance sheet at one point in time and are not necessarily indicative of positions at other dates. In developing the classifications used in the tables it has been necessary to make certain assumptions and approximations in assigning assets and liabilities to different repricing categories. 131 Notes to the accounts 6 0 0 2 r e b m e c e D 1 3 l a t o T m € 6 9 1 3 5 9 , 8 0 0 9 , 2 1 7 9 6 , 9 5 6 6 , 9 1 5 1 1 , 7 0 1 m € - 3 5 9 , 8 - - - - - 8 3 6 - 3 9 2 m € g n i r a e b 0 7 4 , 2 7 2 2 , 7 6 2 5 , 8 5 1 3 2 4 , 1 1 8 5 1 , 8 1 9 1 3 3 4 , 3 3 5 7 8 , 4 7 1 3 5 , 8 2 4 4 7 , 4 7 4 1 , 8 5 0 6 , 8 - - 1 9 1 - - - - - 4 4 1 7 4 3 , 1 1 - 2 8 3 , 2 5 0 7 , 5 5 0 6 , 8 m € - - - 8 2 1 2 9 6 , 2 2 5 2 , 1 2 7 0 , 4 - - 7 9 3 7 2 9 - 0 6 8 7 8 , 2 g n i d a r T t s e r e t n i - n o N + s r a e y 5 5 < 4 m € s r a e Y 4 < 3 m € s r a e Y - - - - 6 9 3 , 1 4 2 9 , 2 - - - - 1 2 2 , 1 5 5 3 , 1 0 2 3 , 4 6 7 5 , 2 - 7 5 1 9 3 0 9 2 - 1 - - - - 3 - - - 3 < 2 m € s r a e Y - - - - 6 4 6 , 1 3 8 4 , 1 9 2 1 , 3 - - 5 9 4 5 1 5 , 4 - - 9 9 1 2 < 1 m € s r a e Y - - - - 9 4 8 , 1 2 5 0 , 2 1 0 9 , 3 - 9 3 7 0 8 2 9 1 - - - 2 1 < 3 m € s h t n o M 3 < 1 m € s h t n o M 1 < 0 m € h t n o M 1 6 1 - 0 2 3 - 2 0 8 , 4 8 5 6 , 2 1 4 9 , 7 - 6 6 6 , 2 1 2 1 , 4 1 4 4 , 3 - - - - 5 3 6 2 7 - 2 6 9 , 2 5 6 3 , 1 1 - - - 8 8 0 , 1 1 4 4 1 , 2 8 6 8 6 , 4 8 8 0 , 5 1 8 1 9 , 7 9 - 2 7 0 , 7 6 0 0 , 3 1 - 9 3 5 , 7 1 9 8 1 , 0 5 9 4 3 , 5 1 3 0 1 , 4 - - 0 0 6 - - 7 6 0 , 1 ) d e u n i t n o c ( y t i v i t i s n e s e t a r t s e r e t n I 2 5 132 s l l i b e l b i g i l e r e h t o d n a s l l i b y r u s a e r T s t e s s A s r e m o t s u c s k n a b o t o t s e l b a v i e c e r d n a s n a o L s e l b a v i e c e r d n a s n a o L s t e s s a l a i c n a n i f o i l o f t r o p g n i d a r T e l a s r o f e l b a l i a v a s t n e m t s e v n i l a i c n a n F i s e i t i l i b a i l l a i c n a n i f o i l o f t r o p g n i d a r T r e h t o d n a s e i t i l i b a i l d e t a n i d r o b u S e u s s i n i s e i t i r u c e s t b e D s t n e m u r t s n i l a t i p a c y t i u q e ’ s r e d o h e r a h S l s e i t i l i b a i l r e h t O s t n u o c c a r e m o t s u C s k n a b y b s t i s o p e D s t e s s a r e h t O s t e s s a l a t o T s e i t i l i b a i L 6 2 5 , 8 5 1 3 7 5 , 2 1 0 8 , 5 2 2 6 2 , 4 8 5 1 2 3 3 9 0 2 , 5 8 3 0 , 1 8 2 2 , 0 1 7 2 0 , 6 3 8 9 8 , 2 7 y t i u q e l s r e d o h k c o t s d n a s e i t i l i b a i l l a t o T - - - 6 2 5 , 8 5 1 3 7 5 , 2 1 0 8 , 5 2 - ) 0 5 8 , 8 ( 0 5 8 , 8 ) 3 4 6 , 7 1 ( ) 3 5 7 , 2 ( 9 0 5 , 1 3 6 5 , 2 3 9 7 , 8 ) 9 7 6 ( ) 1 2 5 ( 1 4 8 , 4 0 3 2 , 6 ) 1 4 ( 1 9 2 5 8 2 , 2 9 8 3 , 1 ) 6 9 1 ( 3 1 0 , 5 ) 6 9 8 ( ) 4 8 8 , 1 ( ) 9 9 8 ( 9 3 1 8 8 9 2 6 7 , 3 ) 4 5 2 , 6 ( 4 7 9 , 3 7 6 9 3 ) 4 7 7 , 2 ( 9 6 5 , 1 6 9 5 , 7 3 ) 1 4 7 , 6 ( ) 8 0 5 , 2 2 ( 3 5 2 , 9 1 5 1 , 2 8 7 6 7 , 5 1 7 6 7 , 5 1 m o r u E m o r u E m o r u E m o r u E m o r u E m o r u E m o r u E m o r u E m o r u E m o r u E y t i v i t i s n e s e t a r t s e r e t n i g n i t c e f f a s t n e m u r t s n i l a i c n a n i f e v i t a v i r e D p a g y t i v i t i s n e s t s e r e t n i e v i t a l u m u C p a g y t i v i t i s n e s t s e r e t n I m $ S U m $ S U m $ S U m $ S U m $ S U m $ S U m $ S U m $ S U m $ S U m $ S U ) 4 8 7 ( ) 3 9 3 , 6 ( 9 0 6 , 5 ) 1 7 9 , 3 1 ( 1 1 5 , 1 8 7 5 , 7 4 3 5 , 2 7 6 0 , 6 6 9 2 , 1 3 3 5 , 3 ) 5 7 2 , 3 ( 7 3 2 , 2 5 8 2 , 2 2 1 5 , 5 5 0 3 , 2 7 2 2 , 3 2 2 9 ) 0 3 5 , 8 1 ( 2 5 4 , 9 1 2 5 4 , 9 1 p a g y t i v i t i s n e s t s e r e t n i e v i t a l u m u C p a g y t i v i t i s n e s t s e r e t n I m N L P m N L P m N L P m N L P m N L P m N L P m N L P m N L P m N L P m N L P 2 2 5 5 4 3 , 1 4 6 8 3 2 8 m g t S m g t S 6 4 5 7 4 , 1 ) 2 6 2 , 4 ( ) 9 2 4 , 1 ( 2 4 1 ) 1 4 ( m g t S 5 3 7 3 3 8 , 2 7 8 6 ) 3 8 1 ( 6 4 1 ) 0 7 8 ( 1 0 2 9 7 8 7 6 1 8 0 7 ) 6 1 0 , 1 ( ) 7 1 2 , 1 ( ) 6 9 0 , 2 ( ) 3 6 2 , 2 ( ) 1 7 9 , 2 ( ) 1 7 9 , 2 ( p a g y t i v i t i s n e s t s e r e t n i e v i t a l u m u C p a g y t i v i t i s n e s t s e r e t n I m g t S m g t S m g t S m g t S m g t S m g t S m g t S 7 2 4 , 1 8 9 0 , 2 5 3 5 1 7 6 7 5 7 6 3 1 7 1 3 ) 1 2 6 ( 4 9 8 ) 8 3 9 ( ) 7 2 0 , 4 ( ) 2 3 8 , 1 ( 5 9 1 , 2 5 9 1 , 2 p a g y t i v i t i s n e s t s e r e t n i e v i t a l u m u C p a g y t i v i t i s n e s t s e r e t n I 6 2 2 ) 5 7 7 ( ) 0 0 4 ( ) 1 0 0 , 1 ( 8 2 2 ) 1 0 6 ( 7 3 1 ) 9 2 8 ( 1 1 3 ) 6 6 9 ( 7 8 2 5 3 2 1 5 3 4 6 ) 7 7 2 , 1 ( ) 4 6 5 , 1 ( ) 9 9 7 , 1 ( ) 0 5 1 , 2 ( ) 4 1 2 , 2 ( ) 4 1 2 , 2 ( p a g y t i v i t i s n e s t s e r e t n i e v i t a l u m u C p a g y t i v i t i s n e s t s e r e t n I 52 Interest rate sensitivity (continued) Assets Treasury bills and other eligible bills Loans and receivables to banks Trading portfolio financial assets Loans and receivables to customers Financial investments available for sale Other assets Total assets Liabilities Deposits by banks Trading portfolio financial liabilities Customer accounts Debt securities in issue Subordinated liabilities and other capital instruments Other liabilities Shareholders’ equity Total liabilities Derivative financial instruments 0<3 3<6 6<12 Months Months Months € m € m € m 31 December 2005 1<5 Years € m 5 years + Non-interest bearing € m € m Trading € m Total € m 24 5,947 - 69,956 4,412 - 177 72 - 2,523 1,796 - - 222 - 2,274 2,219 - - - - 7,169 5,776 - 80,339 4,568 4,715 12,945 26,728 - 47,653 14,479 1,149 - - 1,103 - 1,708 984 1,207 - 1,622 1,814 78 - 1,638 334 85 - - - - - - - - 90,009 3,880 4,643 2,050 - - - 2,716 2,486 - 5,202 - - 74 - 2,522 - - 2,596 - 888 - 594 175 11,818 - - 10,113 - - 1,857 201 7,129 10,113 85,232 16,864 13,675 13,475 11,970 133,214 213 - 9,885 - - 10,829 7,169 28,096 - 240 - - 29,329 240 62,580 17,611 - 1,700 - 3,756 12,529 7,169 1,940 133,214 affecting interest rate sensitivity 9,327 (1,785) (3,423) (112) (4,007) - - - 99,336 2,095 1,220 1,938 (1,411) 28,096 1,940 133,214 Interest sensitivity gap Cumulative interest sensitivity gap (18,997) 3,495 2,473 (18,997) (16,524) (13,029) 11,007 (2,022) 6,613 4,591 (14,621) (10,030) 10,030 - Euro m Euro m Euro m Euro m Euro m Euro m Euro m Interest sensitivity gap Cumulative interest sensitivity gap (8,234) (8,234) 959 (7,275) 2,607 (4,668) 6,764 2,096 4,683 6,779 (12,620) (5,841) 4,816 (1,025) US $m US $m US $m US $m US $m US $m US $m Interest sensitivity gap Cumulative interest sensitivity gap (6,338) (6,338) 909 (5,429) 575 (4,854) 2,107 (2,747) 433 (2,314) 2,064 (250) 1,702 1,452 Stg m Stg m Stg m Stg m Stg m Stg m Stg m Interest sensitivity gap Cumulative interest sensitivity gap (1,344) (1,344) 214 (1,130) 51 (1,079) 1,789 710 1,441 2,151 (3,590) (1,439) 1,417 (22) PLN m PLN m PLN m PLN m PLN m PLN m PLN m Interest sensitivity gap Cumulative interest sensitivity gap (1,652) (1,652) 588 (1,064) 250 (814) 228 (586) - (586) (503) (1,089) 573 (516) 133 Notes to the accounts 53 Statement of cash flows Analysis of cash and cash equivalents For the purpose of the statement of cash flows, cash and cash equivalents comprise the following balances with less than 3 months maturity from the date of acquisition: Cash and balances at central banks Loans and receivables to banks Short term investments At 31 December 2006 € m 989 12,354 1,012 14,355 Group 2005 € m 742 6,598 330 7,670 Allied Irish Banks, p.l.c. 2005 € m 2006 € m 514 11,100 - 11,614 503 5,465 - 5,968 The Group is required to maintain balances with the Central Bank and Financial Services Authority of Ireland which amounted to € 2,636m at 31 December 2006 (2005: € 2,694m).The Group is also required by law to maintain reserve balances with the Bank of England and with the National Bank of Poland. At December 2006, such reserve balances amounted to € 755m (2005: € 505m). Amounts with central banks are included within cash and balances at central banks and loans and receivables to banks. 134 54 Report on directors’ remuneration and interests Remuneration policy The Company’s policy in respect of the remuneration of the executive directors aims to support and enhance business performance, and to underpin and reinforce a high-performance and ethical culture. Remuneration packages and structures are such as to attract, retain, motivate and reward the executives concerned and, by ensuring strong links between performance and reward, align individual and company success. In considering such packages, cognisance is taken of: the levels of remuneration for comparable positions, as advised by external consultants (Kepler Associates, who report to the Remuneration Committee and who have not been engaged to provide any other services to the Group); the responsibilities and complexity of the roles of the individuals concerned; their individual performances measured against specific and challenging objectives; and the Group’s overall performance. A high proportion of the remuneration of the senior executives will be delivered through variable pay, including equity. Senior executives participating in the AIB Group Performance Share Plan 2005 (see note 9) are expected to build up, over time, ownership of the Company’s shares to the equivalent of annual basic salary. Remuneration Committee The Remuneration Committee comprises only non-executive directors; during 2006 its members were: Mr. John B McGuckian, Chairman (until 31 May 2006), Mr. Don Godson, Chairman (from 1 June 2006), Mr. Dermot Gleeson, and Mr. Jim O’Leary. The Committee has a wide remit which includes, inter alia, determining, under advice to the Board, the specific remuneration packages of the executive directors. The following tables summarise the total remuneration of the Directors. Fees(1) Salary Bonus(2) € 000 € 000 € 000 Profit share(3) € 000 Taxable benefits(4) € 000 570 415 860 1,845 1,200 500 1,300 3,000 12 12 - 24 45 40 52 137 - - - - 167 139 51 408 71 120 12 86 12 96 - 87 1,249 Remuneration Executive directors Colm Doherty John O’Donnell Eugene Sheehy Non-executive directors Adrian Burke Kieran Crowley Padraic M Fallon Dermot Gleeson Don Godson John B McGuckian Sean O’Driscoll Jim O’Leary Bernard Somers Michael J Sullivan Robert G Wilmers Jennifer Winter Former directors Pensions(6) Other payments(7) Total Pension contributions(5) € 000 148 108 224 480 - - 3 - - 14 - - - - - - 2006 Total € 000 1,975 1,075 2,436 5,486 167 139 54 408 71 134 12 86 12 96 - 87 17 1,266 762 940 1,702 8,454 135 Notes to the accounts 54 Report on directors’ remuneration and interests (continued) Fees(1) € 000 Salary € 000 Bonus(2) € 000 Profit share(3) € 000 Taxable benefits(4) € 000 430 471 470 403 510 400 900 265 256 426 2,284 2,247 13 13 13 4 - 43 66 45 53 34 36 234 17 - - 35 - 52 127 85 44 375 95 75 141 97 98 - 58 1,195 Remuneration Executive directors Michael Buckley (retired 30 June 2005) Colm Doherty Gary Kennedy Aidan McKeon Eugene Sheehy (appointed 12 May 2005) Non-executive directors Adrian Burke Kieran Crowley Padraic M Fallon Dermot Gleeson Don Godson Sir Derek Higgs (resigned 5 October 2005) John B McGuckian Jim O’Leary Michael J Sullivan Robert G Wilmers Jennifer Winter Former directors Pensions(6) Total Pension contributions(5) € 000 533 122 2,133 180 132 3,100 - - 11 - - - 11 - - - - 22 2005 Total € 000 1,459 1,551 2,934 912 1,104 7,960 127 85 55 375 95 75 152 97 98 - 58 1,217 758 758 9,935 (1) Fees comprise a basic fee, paid at a rate of € 36,500 per annum (with effect from 26 April 2006; during 2005 it was paid at a rate of € 35,000 per annum), in respect of service as a director, and additional remuneration paid to any non-executive director who holds the office of Chairman, or who is the Chairman of the Audit Committee, or the Remuneration Committee, or is the Senior Independent Director, or who performs additional services, such as through membership of Board Committees or the board of a subsidiary company. In 2005, the Board discontinued the practice of paying fees to Executive Directors, save in the case of Mr. Michael Buckley (who retired on 30 June 2005) and Mr. Aidan McKeon (who retired from the Board on 31 December 2005). A fee of € 36,023 was paid to M&T Bank Corporation (“M&T”) in the year ended 31 December 2006 (2005: € 35,000), in respect of Mr. Robert G.Wilmers’s directorship of the Company as the designee of M&T, pursuant to the Agreement and Plan of Reorganisation, dated 26 September 2002, by and among the Company, Allfirst Financial Inc. and M&T, as approved by shareholders at the Extraordinary General Meeting held on 18 December 2002 (“the Agreement”). Messrs. Eugene Sheehy, Colm Doherty and Michael Buckley (who retired as Group Chief Executive and Director of AIB on 30 June 2005) served as AIB-designated Directors of M&T, pursuant to the Agreement. The fees payable in this regard, which amounted to € 57,178 in 2006 (2005: € 55,323), were paid to AIB, except that the portion of this figure payable in respect of Mr. Buckley (€ 24,182) was paid direct to Mr. Buckley (2005: € 10,656 from date of his retirement on 30 June 2005). (2) The executive directors participate in a discretionary, performance-related, incentive scheme for senior executives under which bonuses may be earned on the achievement of specific, performance-related objectives, reviewed annually. Information on the employees’ profit sharing schemes, which are operated on terms approved by the shareholders, is given in note 9. (3) (4) Taxable benefits include the use of a company car or the payment of a car allowance, and benefit arising from loans made at preferential interest rates. 136 54 Report on directors’ remuneration and interests (continued) Remuneration (continued) (5) “Pension contributions” represent: (a) payments to defined benefit pension schemes, in accordance with actuarial advice, to provide post-retirement pensions from normal retirement date.The contribution rate in 2006 in repect of the Executive Directors, as a percentage of pensionable emoluments, is 26.0% (2005: 26.0% in respect of the Republic of Ireland scheme and 44.6% in respect of the UK pension scheme). The fees of the non-executive directors who joined the Board since 1990 are not pensionable; and (b) in respect of 2005, one-off payments to the pension scheme to meet the scheme’s liabilities arising from the retirements of; (i) Mr. Michael Buckley, some seven months prior to his normal retirement date (funding impact: € 0.416m), and (ii) Mr. Gary Kennedy – see Note 55 (funding impact: € 2.011m). The pension benefits earned during the year, and accrued at year-end, are as follows: Executive directors Colm Doherty Eugene Sheehy John O’Donnell Non-executive directors Padraic M Fallon John B McGuckian Increase in accrued benefits during 2006(a) € 000 Accrued benefit at year-end(b) € 000 Transfer values(c) € 000 53 30 13 0.3 0.9 248 456 198 17.1 24.3 666 467 201 3.8 16.0 (a) Increases are after adjustment for inflation, and arise in consequence of (i) additional pensionable service; and (ii) increases in pensionable earnings. (b) The figures represent the accumulated total amounts of accrued benefits (i.e. annual pension) payable at normal retirement dates, as at 31 December 2006. (c) The figures show the transfer values of the increases in accrued benefits during 2006. These transfer values do not represent sums paid or due, but the amounts that the Company’s pension scheme would transfer to another pension scheme, in relation to the benefits accrued in 2006, in the event of the member leaving service. “Pensions” (€ 762,000) represents the payment of pensions to former directors or their dependants granted on an ex-gratia basis and fully provided for in the Balance Sheet, together with an amount of € 650,000 to amortise a deficit in the Non- Executive Directors’ Pension Scheme, in accordance with actuarial advice (2005: € 758,000, inclusive of € 650,000 in respect of amortisation of the Pension Scheme deficit). “Other payments” represents the remuneration of Mr. Aidan McKeon from 1 January 2006 until his retirement as an Executive on 28 February 2006, and the payment to Mr. Gary Kennedy of € 738,675 on foot of approvals given by the shareholders at the 2006 Annual General Meeting (see note 55). (6) (7) 137 Notes to the accounts 54 Report on directors’ remuneration and interests (continued) Interests in shares The beneficial interests of the Directors and the Secretary in office at 31 December 2006, and of their spouses and minor children, in the Company’s ordinary shares are as follows: Ordinary Shares Directors:: Adrian Burke Kieran Crowley Colm Doherty Padraic M Fallon Dermot Gleeson Don Godson John B McGuckian John O’Donnell Sean O’Driscoll Jim O’Leary Eugene Sheehy Bernard Somers Michael J Sullivan Robert G Wilmers Jennifer Winter Secretary:: W M Kinsella * or later date of appointment Share Options 31 December, 2006 1 January, 2006* 11,004 12,520 71,116 8,979 60,000 65,000 72,911 9,491 3,503 4,000 105,284 - 1,700 405,059 480 11,004 7,520 70,469 8,979 32,826 50,000 72,911 8,844 3,503 4,000 71,284 - 1,700 152,459 280 40,697 40,050 Details of the Executive Directors’ and the Secretary’s options to subscribe for ordinary shares are given below. Information on the Share Option Schemes, including policy on the granting of options, is given in note 9. The vesting of these options in the individuals concerned is dependent on Earnings Per Share (“EPS”) targets being met. Subject thereto, the options outstanding at 31 December 2006 are exercisable at various dates between 2007 and 2015. Details are shown in the Register of Directors’ and Secretary’s Interests, which may be inspected by shareholders at the Company’s Registered Office. Since 1 January 2006* Exercised Granted Weighted average price of options exercised Market price at date of exercise Weighted average subscription price of options outstanding at 31 December 2006 - - 34,000 € - - 10.60 € - - 18.30 € 12.83 13.23 13.78 - - - 13.99 - - - - 31 December, 2006 1 January, 2006* Directors:: Colm Doherty John O’Donnell Eugene Sheehy Secretary:: W M Kinsella 185,000 96,000 120,000 185,000 96,000 154,000 40,500 40,500 * or later date of appointment 138 54 Report on directors’ remuneration and interests (continued) Long Term Incentive Plans Details of the Executive Directors’ and the Secretary’s conditional grants of awards of ordinary shares are given below. These conditional awards are subject to onerous performance targets being met, in terms of EPS growth and total shareholder return. Information on the Long Term Incentive Plans, including policy on the granting of awards, is given in note 9. The conditional grants of awards outstanding at 31 December 2006 may vest between 2007 and 2009, depending on the date of the grant. Directors: Colm Doherty John O’Donnell Eugene Sheehy Secretary:: W M Kinsella * or later date of appointment 31 December 2006 Lapsed during 2006 Granted during 2006 1 January 2006* 91,391 67,737 182,375 20,000 6,000 7,000 37,676 31,397 83,725 73,715 42,340 105,650 10,314 - 5,814 4,500 Apart from the interests set out above, the Directors and Secretary in office at year-end, and their spouses and minor children, have no other interests in the shares of the Company. There were no changes in the Directors’ and Secretary’s interests between 31 December 2006 and 5 March 2007, except with respect to Directors appointed post year-end, namely, Mr. Donal Forde, Ms. Anne Maher and Mr. Daniel O’Connor who were appointed to the Board on 11 January 2007. Their interest (inclusive of the interests of their spouses and minor children) in the ordinary shares of the Company are as follows: - Mr. Donal Forde has interests in 43,445 ordinary shares; he has options over 115,000 ordinary shares, and conditional grants of awards of 67,471 ordinary shares under the Long Term Incentive Plans; - Ms. Anne Maher has no interests in the ordinary shares of the Company; and - Mr. Daniel O’Connor has interests in 8,000 ordinary shares. The year-end closing price, on the Irish Stock Exchange, of the Company’s ordinary shares was € 22.50 per share; during the year, the price ranged from € 16.75 to € 23.00 per share. Service Contracts There are no service contracts in force for any Director with the Company or any of its subsidiaries. 55 Related party transactions (a) Transactions with subsidiary undertakings Allied Irish Banks, p.l.c. (“AIB”) is the ultimate parent company of the Group. Banking transactions are entered into by AIB with its subsidiaries in the normal course of business. These include loans, deposits and foreign currency transactions on an “arms length” basis. Balances between AIB and its subsidiaries are detailed in notes 25, 26, 34, 39 and 40. (b) Associated undertakings and joint ventures From time to time the Group provides certain banking and financial services for associated undertakings. Details of loans to associates are set out in Note 25 and 26, while deposits from associates are set out in Notes 39 and 40. (c) Sale and Leaseback of Blocks E, F, G and H Bankcentre to Hibernian Life and Pensions Ltd. (“HLP”) On 9 June 2006, the Group agreed the sale and leaseback of blocks E, F, G, and H at Bankcentre (note 12). The lease is for 20 years. The blocks were sold to HLP for a total consideration of € 170.5m. AIB hold a 24.99% share of Hibernian Life and Holdings Ltd. (HLH) which is the holding company for Ark Life and HLP. The initial annual rent payable on blocks E, F, G and H per annum is € 7.1m. The rent is paid through Wallkav Ltd, a wholly owned subsidiary of AIB p.l.c. 139 Notes to the accounts 55 Related party transactions (continued) (d) Provision of banking and related services to Group Pension Funds, unit trusts and investment funds managed by Group Companies The Group provides certain banking and financial services for the AIB Group Pension Funds and also for unit trusts and investment funds managed by Group companies. Such services are provided on terms similar to those that apply to third parties and are not material to the Group. (e) Compensation of Key Management Personnel The following disclosures are made in accordance with the provisions of IAS 24 - Related PartyDisclosures, in respect of the compensation of key management personnel. Under IAS 24, “Key Management Personnel” are defined as comprising directors (executive and non-executive) together with senior executive officers, (namely, the members of the Group Executive Committee (see pages 6 and 7) and, in 2005, the Chief Financial Officer, up to the date of his retirement on 30 September 2005). The figures shown below include the figures separately reported in respect of directors’ remuneration, shown in the “Report on Directors’ Remuneration and Interests” in note 54. Short-term employee benefits(1) Post-employment benefits(2) Termination benefits(3) Equity compensation benefits(4) Total 2006 € m 12.3 2.1 0.8 3.1 18.3 2005 € m 11.2 6.3 0.9 1.8 20.2 (1) comprises (a) in the case of executive directors and the other senior executive officers: salary, directors’ fees, bonus, profit share scheme benefits, medical insurance, benefit-in-kind arising from preferential loans and use of company car (or payment in lieu), and other short-term benefits, and (b) in the case of non-executive directors: directors’ fees. Figures for 2006 relate to 3 executive directors (2005:5) - see “Report on Directors’ Remuneration and Interests” in Note 54: 7 other senior executive officers (2005:9); and 11 non-executive directors (2005: 10), excluding Mr. R.G.Wilmers, fees in respect of whose service as a designated director of M&T Bank Corporation (“M&T”), amounting to € 36,023 (2005: € 35,000) were paid to M&T; (2) comprises (a) payments to defined benefit pension schemes, in accordance with actuarial advice, to provide post-retirement pensions from normal retirement date in respect of 3 executive directors (2005:5); 2 non-executive directors (2005:2); and 7 other senior executive officers (2005:9); (b) one-off payments in 2005 to such schemes to meet liabilities arising from augmented pension benefits paid on retirement (see Note 54 - “Report on Directors’ Remuneration and Interests”) in respect of 2 executive directors and 2 senior executive officers; (c) the payment of pensions to former directors or their dependants, granted on an ex gratia basis; and (d) an amount of € 650,000 (2005: € 650,000) to amortise a deficit in the Non-Executive Directors’ Pension Scheme, in accordance with actuarial advice; (3) lump sum payments made in 2006 to Mr. Gary Kennedy (see page 141), and on retirement to Mr. Aidan McKeon, and lump sum payments made in 2005 on retirement to two senior executive officers, neither of whom was a director; (4) the value of awards made to executive directors and other senior executive officers under the company’s share option scheme and long term incentive plans (which are described in Note 9); the value shown, which has been determined by applying the valuation techniques described in Note 9, relate to 3 executive directors and 6 other senior executive officers in 2006 (2005: 3 executive directors and 9 other senior executive officers). (f) Transactions with Key Management Personnel (1) At 31 December 2006, deposit and other credit balances held by Key Management Personnel amounted to € 5.3m (2005: € 5.0m). (2) Loans to non-executive Directors are made in the ordinary course of business on normal commercial terms. Loans to executive directors and other senior executive officers are made (i) on terms applicable to other employees in the Group, in accordance with established policy, within limits set on a case by case basis, and/or (ii) otherwise, on normal commercial terms. 140 55 Related party transactions (continued) The following amounts were outstanding at year-end in loans, or quasi-loans (effectively, credit card facilities) to persons who at any time during the year were key management personnel: A. Directors (number of persons) B. Other Senior Executive Officers * (number of persons) Total (number of persons) 31 December 2006 Quasi-loans Loans 31 December 2005 Quasi-loans Loans € 3.7m (7) € 3.7m (5) € 7.4m (12) € 0.05m (11) € 0.03m (6) € 0.08m (17) € 2.6m (6) € 2.1m (6) € 4.7m (12) € 0.04m (8) € 0.03m (8) € 0.07m (16) * Group Executive Committee members (other than executive directors, whose figures are included at A) (g) Indemnities On 2 February 2004, AIB Capital Markets plc, a wholly-owned subsidiary, extended the terms of an indemnity previously given to certain former directors, officers and employees of Govett Investment Management Ltd. (“Govett”) - now “AIB Investment Management Limited” - to Mr. Michael Buckley, the former Group Chief Executive, and Mr. Colm Doherty, Managing Director, AIB Capital Markets; Mr. Buckley is a former director of a split capital trust managed by Govett, and Mr. Doherty is a former director of Govett. The aggregate liability of AIB Capital Markets plc under the aforementioned indemnity is € 10m. The purpose of the indemnity is to protect the indemnified parties (or any of them) against any civil liability, loss and defence costs which they (or any of them) may suffer by reason of any claim made against them relating to certain split capital or highly leveraged trusts previously managed by Govett and which previously would have been covered by insurance. Prior to July 2003, the Bank’s professional indemnity and directors’ and officers’ liability insurance provided cover in respect of the eventualities mentioned in the previous paragraph. However, on renewal of that insurance on 1 July 2003, and in line with a general change introduced by the insurance industry, exclusions were imposed that removed that cover. By virtue of the terms of the above- mentioned indemnity, the indemnified parties now stand in the position they would have been in if those exclusions had not been imposed, except that the aggregate limit of liability under the indemnity is € 10m rather than the higher amount previously provided by the insurance. Allied Irish Banks, p.l.c. has indemnified the Directors of Allied Irish Banks Pensions Limited and AIB DC Pensions (Ireland) Limited, the trustees of the Group’s Republic of Ireland defined benefit and defined contribution pension schemes, respectively, against any actions, claims or demands arising out of their actions as Directors of the trustee companies, other than by reason of wilful default. Mr. Adrian Burke, a Director of the Company, is a Director of the above-mentioned trustee companies. (h) Payment to a former Director In accordance with shareholder approval given at the 2006 Annual General Meeting, a payment of € 738,675 was made to Mr. Gary Kennedy, who resigned as a director of the company on 31 December 2005, which included compensation for loss of office, and covered fees in relation to legal, pension, taxation and other advice. 141 Notes to the accounts 56 Commitments Capital expenditure Estimated outstanding commitments for capital expenditure not provided for in the accounts amounted to € 162m (2005: € 188m). For Allied Irish Banks, p.l.c. outstanding capital commitments amounted to € 75m (2005: € 46m). Capital expenditure authorised, but not yet contracted for, amounted to € 144m (2005: € 140m). For Allied Irish Banks, p.l.c. this amounted to € 82m (2005: € 43m). Operating lease rentals The total of future minimum lease payments under non-cancellable operating leases are set out below: One year One to two years Two to three years Three to four years Four to five years Over five years Total 2006 € m 45 58 55 53 47 554 812 Group 2005 € m Allied Irish Banks, p.l.c. 2005 € m 2006 € m 18 21 34 31 43 434 581 40 52 50 49 43 226 460 16 19 32 31 43 214 355 Significant leases are set out in notes 12 & 13 together with initial rents payable and minimum lease terms. Other operating leases in place have various lease terms. In addition, the term of the lease of the new Bankcentre development, outlined in note 13, shall commence from the date of issue of the completion certificate for the development, or sections thereof, or if later the date on which the contract price under the development agreement has been paid. There are no contingent rents payable and all lease payments are at fair value. The total of future minimum sublease payments expected to be received under non-cancellable subleases at the balance sheet date were € 8m (2005: € 13m). For Allied Irish Banks, p.l.c. this was € 7m (2005: € 9m). Operating lease payments recognised as an expense for the period were € 46m (2005: € 37m). Sublease income amounted to € 2m (2005: € 1m). For Allied Irish Banks, p.l.c. operating lease payments recognised were € 37m (2005: € 27m). Sublease income for Allied Irish Banks, p.l.c. amounted to € 2m (2005: € 1m). 57 Employees The average full-time equivalent employee numbers by division (excluding employees on career breaks or long term absences) were as follows: AIB Bank ROI AIB Bank UK Capital Markets Poland Group 2006 9,116 2,941 2,357 7,385 1,183 22,982 2005 9,208 2,887 2,459 7,188 714 22,456 58 Companies (Amendment) Act, 1983 The Companies (Amendment) Act, 1983, requires that, when the net assets of a company are half or less than half of its called up share capital, an extraordinary general meeting be convened.The Act further requires an expression of opinion by the auditors as to whether the financial situation of the company at the balance sheet date is such as would require the convening of such a meeting. 59 Reporting currency The currency used in these accounts is the euro which is denoted by “EUR” or the symbol €. Each euro is made up of one hundred cent, denoted by the symbol “c” in these accounts. 142 60 Financial and other information Operating ratios Operating expenses/operating income Other income/operating income Net interest margin: Group Domestic Foreign Rates of exchange € /US $ Closing Average € /Stg £ Closing Average € /PLN Closing Average Capital adequacy information Risk weighted assets Banking book: On balance sheet Off-balance sheet Trading book: Market risks Counterparty and settlement risks Total risk weighted assets Capital Tier 1 Tier 2 Supervisory deductions Total Capital ratios(1) Tier 1 Total 2006 2005 53.5% 30.7% 2.26% 2.04% 2.77% 55.2% 30.6% 2.38% 2.17% 2.83% 1.3170 1.2566 0.6715 0.6822 3.8310 3.8965 1.1797 1.2484 0.6853 0.6851 3.8600 4.0276 31 December 2006 € m 31 December 2005 € m 101,285 13,033 114,318 8,172 544 8,716 79,520 14,682 94,202 6,891 563 7,454 123,034 101,656 10,116 3,838 13,954 310 13,644 7,275 4,089 11,364 487 10,877 8.2% 11.1% 7.2% 10.7% (1) The final dividend of € 407m has not been taken into account in the calculation of the Tier 1 and Total capital ratios. The Financial Regulator has issued a requirement that a Prudential Filter be applied to proposed final dividends with effect from July 2007. If applied at 31 December 2006, the Tier 1 and Total capital ratios would be 7.9% and 10.8% respectively. 143 Notes to the accounts 60 Financial and other information (continued) Currency information Euro Other 2006 € m 92,189 66,337 Assets 2005 € m 75,806 57,408 2006 € m 92,974 65,552 Liabilities 2005 € m 76,831 56,383 158,526 133,214 158,526 133,214 61 Average balance sheets and interest rates The following tables show the average balances and interest rates of interest earning assets and interest bearing liabilities for the years ended 31 December 2006 and 2005.The calculation of average balances include daily and monthly averages for reporting units.The average balances used are considered to be representative of the operations of the Group. Year ended 31 December 2006 Average rate % Interest € m 191 116 3,162 2,177 349 31 588 209 4,290 2,533 85 6,908 6,908 3.9 5.1 5.1 6.6 3.8 2.3 4.0 4.8 4.7 6.2 5.2 4.9 Average balance € m 4,596 1,131 47,806 27,664 7,786 1,308 12,869 3,220 73,057 33,323 106,380 13,209 119,589 Year ended 31 December 2005 Average rate % Interest € m 117 50 2,084 1,768 257 48 470 177 2,928 2,043 125 5,096 5,096 2.5 4.4 4.4 6.4 3.3 3.7 3.7 5.5 4.0 6.1 4.8 4.3 31.5 31.1 Assets Loans and receivables to banks Domestic offices Foreign offices Loans and receivables to customers Domestic offices Foreign offices Trading portfolio financial assets Domestic offices Foreign offices Financial investments available for sale Domestic offices Foreign offices Total interest earning assets Domestic offices Foreign offices Net interest on swaps Total average interest earning assets Non-interest earning assets Total average assets Percentage of assets applicable to foreign activities Average balance € m 4,930 2,307 62,641 33,133 9,205 1,316 14,671 4,339 91,447 41,095 132,542 8,827 141,369 144 61 Average balance sheets and interest rates (continued) Liabilities and shareholders’ equity Due to banks Domestic offices Foreign offices Due to customers Domestic offices Foreign offices Other debt issued Domestic offices Foreign offices Subordinated liabilities Domestic offices Foreign offices Total interest earning liabilities Domestic offices Foreign offices Average balance € m 28,375 2,098 36,101 21,282 13,615 10,144 3,542 551 81,633 34,075 Total average interest earning liabilities 115,708 18,263 Non-interest earning liabilities 133,971 7,398 Total liabilities Stockholders’ equity Total average liabilities and stockholders’ equity Percentage of liabilities applicable to foreign operations 62 Post-balance sheet events Year ended 31 December 2005 Average rate % Interest € m Year ended 31 December 2006 Average rate % Interest € m 1,067 96 809 768 456 499 182 32 2,514 1,395 3,909 3,909 3.8 4.6 2.2 3.6 3.4 4.9 5.2 5.8 3.1 4.1 3.4 2.9 Average balance € m 25,288 1,963 27,820 18,545 7,001 8,486 2,925 - 63,034 28,994 92,028 21,237 113,265 6,324 693 81 473 642 171 374 132 - 1,469 1,097 2,566 2,566 2.7 4.1 1.7 3.5 2.4 4.4 4.5 - 2.3 3.8 2.8 2.3 2.2 141,369 3,909 2.8 119,589 2,566 30.2 30.7 There have been no material post-balance sheet events which would require disclosure or adjustment to the 31 December 2006 Financial Statements. On 5 March 2007, the Board of Directors reviewed the Financial Statements and authorised them for issue. These Financial Statements will be submitted to the Annual General Meeting of Shareholders to be held on 9 May 2007 for approval. 63 Dividends Final dividends are not accounted for until they have been approved at the Annual General Meeting of Shareholders to be held on 9 May 2007. It is recommended that a final dividend of Eur 46.5c per ordinary share, amounting to € 407m, be paid on 10 May 2007. The Financial Statements for the year ended 31 December 2006 do not reflect this resolution, which will be accounted for in shareholders’ equity as an appropriation of retained profits in the year ending 31 December 2007. 64 Form 20-F An annual report on Form 20-F will be filed with the Securities and Exchange Commission,Washington D.C. and, when filed, will be published on the Company’s website and will be available to shareholders on application to the Company Secretary. 65 Approval of accounts The accounts were approved by the Board of Directors on 5 March 2007. 145 Statement of Directors’ Responsibilities in relation to the Accounts The following statement, which should be read in steps as are reasonably open to them to safeguard the assets conjunction with the statement of auditors’ responsibilities of the group and to prevent and detect fraud and other set out within their audit report, is made with a view to irregularities. distinguishing for shareholders the respective responsibilities of the directors and of the auditors in relation to the Under applicable law and the requirements of the Listing accounts. Rules issued by the Irish Stock Exchange, the directors are also responsible for preparing a Directors’ Report and reports The directors are responsible for preparing the Annual relating to directors’ remuneration and corporate governance Report and the group and parent company accounts, in that comply with that law and those rules. accordance with applicable law and regulations. The Companies Acts require the directors to prepare group integrity of the corporate and financial information included and parent company accounts for each financial year. Under on the company’s website. Legislation in Ireland governing the Acts, the directors are required to prepare the group the preparation and dissemination of financial statements accounts in accordance with international financial reporting may differ from legislation in other jurisdictions. The directors are responsible for the maintenance and standards (“IFRS”), adopted from time to time by the European Commission. The directors, having prepared the accounts, have requested the auditors to take whatever steps and undertake whatever The accounts are required by law and IFRS to present fairly inspections they consider to be appropriate for the purpose the financial position and performance of the group; the of enabling them to give their audit report. Companies Acts provide in relation to such accounts that references to accounts giving a true and fair view are references to their achieving a fair presentation. In preparing each of the group and parent company accounts, the directors are required to: • select suitable accounting policies and then apply them consistently; • make judgements and estimates that are reasonable and prudent; and • prepare the accounts on the going concern basis unless it is inappropriate to presume that the group and the parent company will continue in business. The directors consider that, in preparing the accounts on pages 47 to 145, which have been prepared on a going concern basis, the parent company and the group have, following discussions with the auditors, used appropriate accounting policies consistently applied and supported by reasonable and prudent judgements and estimates and that all accounting standards, which, following discussions with the auditors, they consider applicable, have been followed (subject to any explanations and any material departures disclosed in the notes to the accounts). The directors are responsible for taking all reasonable steps to secure that the company causes to be kept proper books of account that disclose with reasonable accuracy at any time the financial position of the parent company and enable them to ensure that its accounts comply with the Companies Acts.They have also general responsibility for taking such 146 Independent Auditor’s Report Independent Auditor’s Report to the Members of Allied Irish Banks, p.l.c. We have audited the group and parent company financial statements of Allied Irish Banks, p.l.c. for the year ended 31 December 2006 (“the financial statements”) which comprise the Group Consolidated Income Statement, the Group Consolidated and Parent Company Balance Sheets, the Group and Parent Company Cash Flow Statements, the Group and Parent Company Statements of Recognised Income and Expense, Group Consolidated and Parent Company Reconciliation of movements in shareholders’ equity and the related notes. These financial statements have been prepared under the accounting policies set out therein. This report is made solely to the company’s members, as a body, in accordance with section 193 of the Companies Act 1990. Our audit work has been undertaken so that we might state to the company’s members those matters we are required to state to them in an auditor’s report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the company and the company’s members as a body, for our audit work, for this report, or for the opinions we have formed. Respective responsibilities of directors and auditors The directors’ responsibilities for preparing the Annual Report and the financial statements in accordance with applicable law and International Financial Reporting Standards (IFRSs) as adopted by the EU are set out in the Statement of Directors’ Responsibilities on page 146. Our responsibility is to audit the financial statements in accordance with relevant legal and regulatory requirements and International Standards on Auditing (UK and Ireland). We report to you our opinion as to whether the financial statements give a true and fair view in accordance with IFRSs as adopted by the EU and, in the case of the parent company applied in accordance with the provisions of the Companies Acts 1963 to 2006, and have been properly prepared in accordance with the Companies Acts 1963 to 2006 and Article 4 of the IAS Regulation.We also report to you whether, in our opinion: proper books of account have been kept by the company; at the balance sheet date, there exists a financial situation requiring the convening of an extraordinary general meeting of the company; and the information given in the Report of the Directors is consistent with the financial statements. In addition, we state whether we have obtained all the information and explanations necessary for the purposes of our audit, and whether the parent company’s balance sheet is in agreement with the books of account. We also report to you if, in our opinion, any information specified by law or the Listing Rules of the Irish Stock Exchange regarding directors’ remuneration and directors’ transactions is not disclosed and, where practicable, include such information in our report. We review whether the Corporate Governance Statement reflects the company’s compliance with the nine provisions of the 2003 FRC Combined Code specified for our review by the Listing Rules of the Irish Stock Exchange, and we report if it does not. We are not required to consider whether the board’s statements on internal control cover all risks and controls, or form an opinion on the effectiveness of the group’s corporate governance procedures or its risk and control procedures. We read other information contained in the Annual Report and consider whether it is consistent with the audited financial statements. We consider the implications for our report if we become aware of any apparent misstatements or material inconsistencies with the financial statements. Our responsibilities do not extend to any other information. Basis of audit opinion We conducted our audit in accordance with International Standards on Auditing (UK and Ireland) issued by the Auditing Practices Board. An audit includes examination, on a test basis, of evidence relevant to the amounts and disclosures in the financial statements. It also includes an assessment of the significant estimates and judgments made by the directors in the preparation of the financial statements, and of whether the accounting policies are appropriate to the group’s and company’s circumstances, consistently applied and adequately disclosed. We planned and performed our audit so as to obtain all the information and explanations which we considered necessary in order to provide us with sufficient evidence to give reasonable assurance that the financial statements are free from material misstatement, whether caused by fraud or other irregularity or error. In forming our opinion we also evaluated the overall adequacy of the presentation of information in the financial statements. 147 Opinion In our opinion: • the Group financial statements give a true and fair view, in accordance with IFRSs as adopted by the EU, of the state of the Group’s affairs as at 31 December 2006 and of its profit for the year then ended; • the parent company financial statements give a true and fair view, in accordance with IFRSs as adopted by the EU as applied in accordance with the provisions of the Companies Acts 1963 to 2006, of the state of the parent company’s affairs as at 31 December 2006; and • the financial statements have been properly prepared in accordance with the Companies Acts 1963 to 2006 and Article 4 of the IAS Regulation. We have obtained all the information and explanations which we consider necessary for the purposes of our audit. In our opinion proper books of account have been kept by the company.The company balance sheet is in agreement with the books of account. In our opinion the information given in the Report of the Directors is consistent with the financial statements. The net assets of the company, as stated in the company balance sheet, are more than half of the amount of its called-up share capital and, in our opinion, on that basis there did not exist at 31 December 2006 a financial situation which under Section 40 (1) of the Companies (Amendment) Act, 1983 would require the convening of an extraordinary general meeting of the company. Chartered Accountants Registered Auditor 1 Harbourmaster Place International Financial Services Centre Dublin 1 Ireland 5 March 2007 Notes: a.The maintenance and integrity of the Allied Irish Banks, p.l.c. website is the responsibility of the directors; the work carried out by the auditors does not involve consideration of these matters and, accordingly, the auditors accept no responsibility for any changes that may have occurred to the financial statements or audit report since they were initially presented on the website. b. Legislation in the Republic of Ireland governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions. 148 Accounts in sterling, US dollars and Polish zloty Summary of consolidated income statement for the year ended 31 December 2006 Operating profit before provisions Provisions Operating profit Associated undertakings Profit on disposal of property Construction contract income Profit on disposal of businesses Profit before taxation - continuing operations Income tax expense - continuing operations Profit after taxation - continuing operations Discontinued operation, net of taxation Profit for the period Minority interests in subsidiaries Profit attributable to equity holders of the parent Basic earnings per share Diluted earnings per share Summary of consolidated balance sheet 31 December 2006 Assets Trading portfolio financial assets Derivative financial instruments Loans and receivables to banks Loans and receivables to customers Financial investments available for sale Intangible assets and goodwill Property, plant and equipment Disposal group and assets classified as held for sale Other assets Liabilities Deposits by banks Customer accounts Derivative financial instruments Debt securities in issue Other liabilities Subordinated liabilities and other capital instruments Minority interests in subsidiaries Shareholders’ equity € m 2,012 104 1,908 167 365 96 79 2,615 433 2,182 116 2,298 113 2,185 Stg £m STG £ 0.6715 = € 1 US $m US $1.3170 = € 1 PLN m PLN 3.8310 = € 1 1,351 70 1,281 112 245 65 53 1,756 291 1,465 78 1,543 76 1,467 2,650 137 2,513 220 481 126 104 3,444 570 2,874 153 3,027 149 2,878 7,708 398 7,310 640 1,398 368 302 10,018 1,658 8,360 444 8,804 433 8,371 246.8c 244.6c 165.7p 164.3p 325.0¢ 322.1¢ 945.5PLN 937.1PLN € m Stg £m US $m PLN m 8,953 2,890 12,900 107,115 19,665 550 593 39 5,821 6,012 1,941 8,662 71,928 13,205 369 398 26 3,908 11,791 3,806 16,989 141,070 25,899 724 781 51 7,666 34,299 11,071 49,420 410,358 75,337 2,107 2,272 149 22,300 158,526 106,449 208,777 607,313 33,433 74,875 2,531 28,531 4,500 4,744 1,307 8,605 22,450 50,278 1,700 19,159 3,021 3,185 878 5,778 44,031 98,610 3,333 37,575 5,926 6,248 1,721 11,333 128,082 286,846 9,696 109,302 17,239 18,175 5,007 32,966 158,526 106,449 208,777 607,313 149 Five year financial summary 2006 US $m Summary of consolidated income statement(1) 3,950 Net interest income - Other finance income 1,748 Other income 5,698 Total operating income 3,048 Total operating expenses 2,650 Operating profit before provisions 137 Provisions 2,513 Operating profit 220 Associated undertakings Share of restructuring & integration costs in associated undertaking Amortisation of goodwill on acquisition of associated undertaking - - 481 Profit on disposal of property 126 Construction contract income 104 Profit/(loss) on disposal of businesses 3,444 570 Profit before taxation - continuing operations Income tax expense - continuing operations 2,874 Profit after taxation - continuing operations 153 Discontinued operation, net of taxation 3,027 Profit for the period 325.0¢ Basic earnings per share 322.1¢ Diluted earnings per share 2006 US $m Summary of consolidated balance sheet(1) 208,777 Total assets 158,059 Total loans 180,216 Total deposits 3,514 Dated capital notes 1,147 Undated loan capital 1,587 Other capital instruments 1,721 Minority interests in subsidiaries 655 Shareholders’ equity: other interests 10,678 Ordinary shareholders’ equity 2006 IFRS € m 2,999 - 1,327 4,326 2,314 2,012 104 1,908 167 - - 365 96 79 2,615 433 2,182 116 2,298 246.8c 244.6c 2006 IFRS € m 158,526 120,015 136,839 2,668 871 1,205 1,307 497 8,108 2005 IFRS € m 2,530 - 1,117 3,647 2,011 1,636 143 1,493 149 - - 14 45 5 1,706 319 1,387 46 1,433 151.0c 149.8c 2005 IFRS € m 133,214 92,361 109,520 2,678 868 210 1,248 497 6,672 19,302 Total capital resources 14,656 12,173 Year ended 31 December 2002 IR GAAP € m 2003 IR GAAP € m 1,934 12 1,230 3,176 1,960 1,216 177 1,039 143 (20) (42) 32 - (141) 1,011 318 693 - 693 78.8c 78.4c 2,351 62 1,514 3,927 2,318 1,609 251 1,358 9 - - 5 - - 1,372 306 1,066 - 1,066 119.1c 117.9c 2004 IFRS € m 2,072 - 1,144 3,216 1,869 1,347 133 1,214 132 - - 9 - 17 1,372 267 1,105 53 1,158 132.0c 131.5c As at 31 December 2004 IFRS € m 2003 IR GAAP € m 2002 IR GAAP € m 101,109 67,278 82,384 1,923 346 497 1,211 182 5,745 9,904 80,960 53,326 66,195 1,276 357 497 158 196 4,942 7,426 85,821 58,483 72,190 1,287 389 496 274 235 4,180 6,861 150 Five year financial summary (continued) Other financial data(1) Return on average total assets Return on average ordinary shareholders’ equity Dividend ratio Average ordinary shareholders’ equity as a percentage of average total assets Allowance for loan losses as a percentage of total loans to customers at year end Net interest margin Tier 1 ratio Total ratio 2006 IFRS % 1.63 29.0 29.3 5.2 0.7 2.26 8.2 11.1 2005 IFRS % 1.20 20.6 43.5 5.3 0.8 2.38 7.2 10.7 Year ended 31 December 2002 IR GAAP % 2003 IR GAAP % 0.90 14.5 66.8 1.24 23.7 41.5 6.0 5.1 1.3 2.72 7.1 10.4 1.6 3.00 6.9 10.1 2004 IFRS % 1.22 20.7 45.5 5.7 1.2 2.45 8.2 10.9 (1)Up to and including the year ended 31 December 2004, AIB’s primary financial statements were prepared in accordance with Irish Generally Accepted Accounting Principles (“Irish GAAP”). On 1 January 2005, AIB Group implemented the requirements of International Financial Reporting Standards and International Accounting Standards (collectively, “IFRS”) for the first time and these were used for the purpose of preparing the financial statements for the years ended 31 December 2005 and 31 December 2006. These financial statements have been prepared based on the recognition and measurement requirements of IFRS issued by the International Accounting Standards Board (“IASB”) as adopted by the European Union (“EU”). AIB availed of transitional provisions for IAS 32 “Financial Instruments: Disclosure and Presentation” (“IAS 32”), IAS 39 “Financial Instruments: Recognition and Measurement” (“IAS 39”) and IFRS 4 “Insurance Contracts” (“IFRS 4”) and did not present comparative information in accordance with these standards in its 2005 financial statements. Accordingly, comparative information for 2004 in respect of financial instruments and insurance contracts has been prepared on the basis of the Group’s accounting policies under Irish GAAP. Thus the five year trends will not be entirely comparable. 151 AIB Global Corporate Banking Bankcentre, Ballsbridge, Dublin 4. Telephone + 353 1 660 0311 Facsimile + 353 1 668 2508 AIB Corporate Finance Limited 85 Pembroke Road, Ballsbridge, Dublin 4. Telephone + 353 1 667 0233 Facsimile + 353 1 667 0250 AIB Irish Capital Management Limited 85 Pembroke Road, Ballsbridge, Dublin 4. Telephone + 353 1 668 8860 Facsimile + 353 1 668 8831 Corporate Banking Britain St Helen’s, 1 Undershaft, London EC3A 8AB. Telephone + 44 20 7090 7130 Facsimile + 44 20 7090 7101 Principal Addresses Ireland & Britain Group Headquarters Bankcentre, PO Box 452, Ballsbridge, Dublin 4. Telephone + 353 1 660 0311 http://www.aibgroup.com AIB Bank (ROI) Bankcentre, Ballsbridge, Dublin 4. Telephone + 353 1 660 0311 Facsimile + 353 1 2830490 First Trust Bank First Trust Centre, PO Box 123, 92 Ann Street, Belfast BT1 3AY. Telephone + 44 28 9032 5599 From ROI 048 9032 5599 Facsimile + 44 28 9043 8338 From ROI 048 9043 8338 First Trust Bank 4 Queens Square, Belfast, BT1 3DJ. Telephone + 44 28 9024 2423 Facsimile + 44 28 902 42464 Allied Irish Bank (GB) Bankcentre, Belmont Road, Uxbridge, Middlesex UB8 1SA. Telephone + 44 1895 272 222 Facsimile + 44 1895 619 305 AIB Finance & Leasing Sandyford Business Centre, Blackthorn Road, Sandyford, Dublin 18. Telephone + 353 1 660 3011 Facsimile + 353 1 295 9773 aibfinl@aib.ie AIB Card Services Donnybrook House, Donnybrook, Dublin 4. Telephone + 353 1 668 5500 Facsimile + 353 1 668 5901 credcard@aib.ie AIB Capital Markets AIB International Centre, IFSC, Dublin 1. Telephone + 353 1 874 0222 Facsimile + 353 1 679 5933 AIB Global Treasury AIB International Centre, IFSC, Dublin 1. Telephone + 353 1 874 0222 Facsimile + 353 1 679 5933 12 Old Jewry, London EC2R 8DP. Telephone + 44 20 7606 3070 Facsimile + 44 20 7726 6618 AIB Investment Managers Limited AIB Investment House, Percy Place, Dublin 4. Telephone + 353 1 661 7077 Facsimile + 353 1 661 7038 AIB International Financial Services Limited AIB International Centre, IFSC, Dublin 1. Telephone + 353 1 874 0777 Facsimile + 353 1 874 3050 Goodbody Stockbrokers Ballsbridge Park, Ballsbridge, Dublin 4. Telephone + 353 1 667 0400 Facsimile + 353 1 667 0422 152 Canada Allied Irish Banks, p.l.c. 20 Bay Street, 12th Floor, Toronto, Ontario, M5J 2N8, Canada. Telephone + 1 416 850 2191 Facsimile + 1 416 850 2194 Australia Allied Irish Banks, p.l.c. Sydney Representative Office, Level 28, Governor Phillip Tower, 1 Farrer Place, Sydney NSW 2000, Australia. Telephone + 61 2 9007 4598 USA Rest of World Allied Irish America 405 Park Avenue, New York, NY 10022. Telephone + 1 212 339 8000 Facsimile + 1 212 339 8007/8 AIB Corporate Banking North America 4th floor, 405 Park Avenue, New York, NY 10022. Telephone + 1 212 515 6788 Facsimile +1 212 339 8325 AIB Global Treasury Services 405 Park Avenue, New York, NY 10022. Telephone + 1 212 339 8000 Facsimile + 1 212 339 8006 Poland Bank Zachodni WBK S.A. Rynek 9/11, 50-950 Wroclaw. Telephone + 48 71 370 2478 Facsimile + 48 71 370 2771 AIB European Investments (Warsaw) Sp. z o.o. Krolewska Building, 4th floor, ul.Marszalkowska 142, 00-061 Warsaw. Telephone + 48 22 586 8002 Facsimile + 48 22 586 8001 AIB PPM Sp. Z o.o. Atrium Tower, Al. Jana Pawla II 25, 00-854 Warszawa, Poland. Telephone + 48 22 653 4700 Facsimile + 48 22 653 4707 AIB Bank (CI) Limited AIB House,Grenville Street, St Helier, Jersey JE4 8WT, Channel Islands. Telephone + 44 1534 883 000 Facsimile + 44 1534 883 112 AIB Corporate Banking France Real Estate Finance, 39 avenue Pierre 1er de Serbie, 75008 Paris. Telephone: +33 1 53 57 76 00 Facsimile:+33 1 53 57 76 20 AIB Corporate Banking Germany Reuterweg 49, D-60323, Frankfurt am Main, Germany. Telephone + 49 69 971 4210 Facsimile + 49 69 971 42116 AIB Bank (CI) Limited Isle of Man Branch, PO Box 186, 10 Finch Road, Douglas, Isle of Man IM99 1QE. Telephone + 44 1624 639639 Facsimile + 44 1624 639636 AIB Hungary Dohány Utca 12, H-1074 Budapest, Hungary. Telephone + 36 1 328 6805 Facsimile + 36 1 328 6801 AIB Luxembourg 69A boulevard de la Pétrusse, L-2320 Luxembourg, Grand Duchy of Luxembourg. Telephone + 352 261 2181 Facsimile + 352 261 21830 All numbers are listed with international codes. To dial a location from within the same jurisdiction, drop the county code after the + sign and place a 0 before the area code. This does not apply to calls to First Trust from Ireland (Republic). 153 Additional Information for Shareholders them.The Company’s ordinary share and non-cumulative preference share ADR programmes are administered by The Bank of New York – see address on page 157. 6. Dividend Reinvestment Plan – US ADR Holders AIB’s ordinary share ADR holders who wish to re-invest their dividends may participate in The Bank of New York’s Global Buy Direct program, details of which may be obtained from The Bank of New York at 1-888-269-2377. 7. Direct Deposit of Dividend Payments – US ADR Holders Ordinary Share ADR holders may elect to have their dividends deposited direct into a bank account through electronic funds transfer. Information concerning this service may be obtained from The Bank of New York at 1-888-269-2377. 8. Dividend Withholding Tax (“DWT”) Note:The following information, which is given for the general guidance of shareholders, does not purport to be a definitive guide to relevant taxation provisions. It is based on the law and practice as provided for under Irish tax legislation. Shareholders should take professional advice if they are in any doubt about their individual tax positions. Further information concerning DWT may be obtained from: DWT Section, Office of the Revenue Commissioners, Government Offices, Nenagh, Co.Tipperary, Ireland. Telephone +353-67-33533. Facsimile +353-67-33822. e-mail: infodwt@revenue.ie. General With certain exceptions, which include dividends received by non-resident shareholders who have furnished valid declaration forms (see below), dividends paid by Irish resident companies are subject to DWT at the standard rate of income tax, currently 20%.The following summarises the position in respect of different categories of shareholder: A. Irish Resident Shareholders – Individuals DWT is deducted from dividends paid to individuals resident in the Republic of Ireland for tax purposes. Individual shareholders are liable to Irish income tax on the amount of the dividend before deduction of DWT, and the DWT is available either for offset against their income tax liability, or for repayment, where it exceeds the total income tax liability. 1. Internet-based Shareholder Services Ordinary Shareholders with access to the internet may – check their shareholdings on the Company’s Share Register; check recent dividend payment details; and download standard forms required to initiate changes in details held by the Registrar, – – by accessing AIB’s website at www.aibgroup.com, clicking on the “Check your Shareholding” option, and following the on-screen instructions.When prompted, the Shareholder Reference Number (shown on the shareholder’s share certificate, dividend counterfoil and personalised circulars) should be entered.These services may also be accessed via the Registrar’s website at www.computershare.com. Shareholders may also use AIB’s website to access the Company’s Annual Report & Accounts. 2. Stock Exchange Listings Allied Irish Banks, p.l.c. is an Irish-registered company. Its ordinary shares are traded on the Irish Stock Exchange, the London Stock Exchange and, in the form of American Depositary Shares (ADSs), on the New York Stock Exchange (symbol AIB). Each ADS represents two ordinary shares and is evidenced by an American Depositary Receipt (ADR). The Company’s non-cumulative preference shares are listed on the Irish Stock Exchange, and are eligible for trading in the USA, in the form of American Depositary Shares, in the National Association of Securities Dealers, Inc.’s PORTAL system under rule 144A. 3. Registrar The Company’s Registrar is: Computershare Investor Services (Ireland) Ltd., Heron House, Corrig Road, Sandyford Industrial Estate, Dublin 18. Telephone: +353-1-247 5411. Facsimile: +353-1-216 3151. Website: www.computershare.com e-mail: web.queries@computershare.ie 4. Payment of Dividends direct to a bank account Ordinary Shareholders resident in Ireland or the UK may have their dividends paid direct to a designated bank account, under advice of full details of the amounts so credited. Shareholders who wish to avail of this facility should contact the Registrar (see 3 above). 5. American Depositary Shares American Depositary Shares provide US residents wishing to invest in overseas securities with a share certificate and dividend payment in a form familiar and convenient to 154 – Shareholders not liable to DWT – Qualifying Intermediaries (other than American The following classes of shareholder who receive the dividend in a beneficial capacity are exempt from DWT, provided the shareholder furnishes a properly completed declaration, on a standard form (see below), to the Registrar, not less than three working days prior to the relevant dividend payment record date: - Companies resident in the Republic of Ireland for tax purposes; - Qualifying Employee Share Ownership Trusts; - Exempt Approved Pension Schemes; - Qualifying Fund Managers who receive the dividend in respect of an approved retirement or minimum retirement fund; - Qualifying Savings Managers who receive the dividend in connection with assets held in a Special Savings Incentive Account; - Collective Investment Undertakings; - Charities exempt from income tax on their income; - Athletic/amateur sports bodies whose income is exempt from income tax; - Designated stockbrokers receiving a dividend for the benefit of the holder of a Special Portfolio Investment Account (“SPIA”); - Certain permanently incapacitated persons who are exempt from income tax; trusts established for the benefit of such persons; and Thalidomide victims exempt from income tax in respect of income arising from the investment of certain compensation payments; - The Administrator of a Personal Retirement Savings Account (“PRSA”) who receives the dividend in respect of the PRSA assets; and - Certain Unit Trusts (Revenue-approved Charities and Pension Schemes) which are exempt from Capital Gains Tax where the dividends are received in relation to units in the trust. Copies of the relevant declaration form may be obtained from the Company’s Registrar at the address shown at 3 above, or from the Revenue Commissioners at the above address. Once lodged with the Company’s Registrar, the declaration form remains current from its date of issue until the exempt shareholder notifies the Registrar that entitlement to exemption is no longer applicable.Where DWT is deducted from dividends paid to a shareholder not liable to DWT, the shareholder may apply to the Revenue Commissioners, at the address shown above, for a refund of the DWT so deducted. Depositary Banks - see D below) Dividends received by a shareholder who is a qualifying intermediary on behalf of a shareholder not liable to DWT may be received without deduction of DWT. A “qualifying intermediary” is a person who receives dividends on behalf of a third party, is resident for tax purposes in the Republic of Ireland or in a relevant territory*, and: – holds a licence under the Central Bank Act, 1971, or a similar authorisation under the law of a relevant territory, or is owned by a company which holds such a licence; is a member firm of the Irish Stock Exchange or of a recognised stock exchange in a relevant territory; or otherwise is, in the opinion of the Irish Revenue Commissioners, a person suitable to be a qualifying intermediary; – – and who (a) enters into a qualifying intermediary agreement with the Irish Revenue Commissioners and (b) is authorised by them as a qualifying intermediary. Information concerning the conditions to be satisfied by intending qualifying intermediaries may be obtained from the Irish Revenue Commissioners at the address shown above. A qualifying intermediary should ensure that it receives completed declarations from underlying shareholders eligible for DWT exemption, so as to be in a position to notify the Company’s Registrar, in advance of each dividend record payment date, of the extent to which the dividend payable to the qualifying intermediary is to be paid without deduction of DWT. A shareholder wishing to ascertain whether an entity is a qualifying intermediary should contact the Irish Revenue Commissioners at the address shown above. * A “relevant territory” means a Member State of the European Union, other than the Republic of Ireland, or a country with which the Republic of Ireland has entered into a double taxation agreement. B. Shareholders not resident for tax purposes in the Republic of Ireland The following categories of shareholder not resident for tax purposes in the Republic of Ireland may claim exemption from DWT, as outlined below: (a) an individual who is neither resident nor ordinarily resident in the Republic of Ireland and who is resident for tax purposes in a relevant territory (as defined at * above); (b) an unincorporated entity resident for tax purposes in a relevant territory and not so resident in the Republic of Ireland; 155 (c) a company resident in a relevant territory (and not so C. Dividend Statements resident in the Republic of Ireland) which is controlled by a non-Irish resident/residents; (d) a company not resident in the Republic of Ireland and which is controlled by a person or persons resident for tax purposes in a relevant territory; or (e) a company not resident in the Republic of Ireland, the principal class of whose shares are traded on a recognised stock exchange in a relevant territory or on such other stock exchange as may be approved by the Minister for Finance, including a company which is a 75% subsidiary of such a company; or a company not resident in the Republic of Ireland that is wholly-owned by two or more companies, each of whose principal class of shares is so traded. Under a proposed legislative amendment, which may be enacted by the date of receipt by shareholders of this annual report, the meaning of a recognised stock exchange will include an exchange in the Republic of Ireland. To claim exemption, any such shareholder must furnish a valid declaration, on a standard form (available from the Irish Revenue Commissioners and from the Company’s Registrar), to the Registrar not less than three working days in advance of the relevant dividend payment record date, and: – Categories (a) and (b) above: The declaration must be certified by the tax authority of the country in which the shareholder is resident for tax purposes.Where the shareholder is a trust, the declaration must be accompanied by (i) a certificate signed by the trustee(s) showing the name and address of each settlor and beneficiary; and (ii) a notice in writing from the Irish Revenue Commissioners, stating that they have noted the information provided by the trustees. – Categories (c), (d) and (e) above: The company’s auditor must certify the declaration. In addition, where the company is resident in a relevant territory, the declaration must be certified by the tax authority of the country in which the shareholder is resident for tax purposes. Once lodged with the Company’s Registrar, declaration forms remain current from their date of issue until 31 December in the fifth year following the year of issue, or, within such period, until the shareholder notifies the Registrar that entitlement to exemption is no longer applicable. Dividends received by a shareholder who is a qualifying intermediary on behalf of a qualifying non-resident person may be received without deduction of DWT - see “Qualifying Intermediaries” under “Irish-Resident Shareholders” at A above. 156 Each shareholder receives a statement showing the shareholder’s name and address, the dividend payment date, the amount of the dividend, and the amount of DWT, if any, deducted. In accordance with the requirements of legislation, this information is also furnished to the Irish Revenue Commissioners. D. American Depositary Receipt (“ADR”) Holders An ADR holder whose address: - on the register of ADRs maintained by AIB’s ADR programme administrator, the Bank of New York (“BONY”), or in the records of a further intermediary through which the dividend is paid - is located in the United States of America is exempt from DWT, provided BONY or the intermediary concerned, as the case may be, satisfies certain conditions. In such circumstances, there is no requirement for the holder to make a declaration in order to obtain exemption from Irish DWT. US Withholding Tax: Note:The following information, which is given for the general guidance of ADR holders, does not purport to be a definitive guide to relevant taxation provisions.While it is believed to be accurate at the time of finalising this Report for publication, ADR holders should take professional advice if they are in any doubt about their individual tax positions. Notwithstanding entitlement to exemption from Irish DWT, referred to above, ADR holders should note that US- resident holders of ADRs may, in certain circumstances, be liable to a US withholding tax on dividends received on such ADRs.This would arise, for example, where a US resident, being the beneficial owner of ADRs issued by an overseas company, fails to provide the depositary bank – or, where applicable, the Registered Broker – with a Form W-9 (tax certified document), showing, inter alia, the holder’s Social Security Number or Taxpayer Identification Number. Non-US residents holding ADRs are required to submit a Form W-8 to the depositary bank/Registered Broker, as appropriate, to become tax certified and to avoid US witholding tax. ADR holders with queries in this regard should contact either (i) The Bank of New York, in the case of holders registered direct with that institution – see address on page 157; (ii) the holder’s Registered Broker, where applicable; or (iii) the holder’s financial/taxation adviser. 9. Shareholding analysis as at 31 December 2006 Size of shareholding 1 – 1,000 1,001 – 5,000 5,001 – 10,000 10,001 – 100,000 100,001 – over Total Geographical division Republic of Ireland Elsewhere Total Number Shareholder Accounts * % Number 14,664,565 51,239,171 35,350,446 64,755,920 709,647,389 58 29 7 6 0 100 875,657,491 80 20 100 311,478,088 564,179,403 875,657,491 Shares ** % 2 6 4 7 81 100 36 64 100 41,718 20,904 4,749 4,080 400 71,851 57,506 14,345 71,851 * Shareholder account numbers reflect US ADR account holders (12,500 approx.) held in a single nominee account ** Excludes 42,778,079 shares held as Treasury Shares - see note 47 on page 124. Financial calendar Annual General Meeting:Wednesday, 9 May 2007, commencing at 11.00am, at the Radisson SAS Hotel, Lough Atalia Road, Galway. Dividend payment dates - Ordinary Shares: – Final Dividend 2006 – 10 May 2007 – Interim Dividend 2007 – 25 September 2007 Interim results Unaudited interim results for the half-year ending 30 June 2007 will be announced on 1 August 2007.The Interim Report for the half-year ending 30 June 2007 will be published as a press advertisement in early August 2007, and will also be available on the Company’s website - www.aibgroup.com. Shareholder enquiries should be addressed to: For holders of Ordinary Shares: Computershare Investor Services (Ireland) Ltd., Heron House, Corrig Road, Sandyford Industrial Estate, Dublin 18, Ireland Telephone: +353 1 247 5411 Facsimile: +353 1 216 3151 e-mail: web.queries@computershare.ie Website: (for on-line shareholder enquiries) www.aibgroup.com - click on ‘Check your Shareholding’ or www.computershare.com For holders of ADRs in the United States: The Bank of New York, Shareholder Relations, PO Box 11258, Church Street Station, New York, NY 10286-1258, USA Telephone 1-888-BNY-ADRS/1-888-269-2377 Website: www.adrbny.com or Ann Kerman AIB Shareholder Relations, 300 North 2nd Street 7th Floor Suite 711 Harrisburg PA 17101, USA Telephone 1-800-458 0348 e-mail: ann.l.kerman@aibny.com 157 Index A Accounting policies Accounts in Sterling, US dollars, and Polish zloty Administrative expenses Amounts written off financial investments available for sale Approval of accounts Associated undertakings Audit Committee Auditor Auditors’ remuneration Average balance sheets and interest rates 47 149 77 85 145 106 43 39 86 144 D Debt securities in issue Deferred taxation Deposits by banks Derivative financial instruments Directors Directors’ interests Directors’ remuneration Disposal of Ark Life Assurance Company Disposal Group and Assets classified as held for sale Distributions to other equity holders Dividend income Dividends Divisional commentary B Balance sheets 64 & 65 Board & Group Executive Committee 6 E Earnings per share Employees Equity risk Exchange rates C Capital adequacy information Capital management Chairman’s statement Class actions Commitments 143 27 4 129 142 Companies (Amendment) Act 1983 142 Finance leases and hire purchase Construction contract income Contingent liabilities and commitments Corporate Governance Corporate Social Responsibility Corporate Social Responsibility Committee Credit risk Currency information Customer accounts 86 127 40 10 43 30 144 119 contracts Financial and other information Financial calendar Financial highlights Financial investments available for sale Financial review Five year financial summary Foreign exchange rate risk Form 20-F Forward looking information 99 143 157 3 101 27 150 34 145 2 158 120 116 118 91 6 138 135 71 117 90 76 145 22 88 142 35 143 G Group Internal Audit Group Chief Executive’s review 30 8 H Hibernian Life Holdings Limited 109 I Income statement Income tax expense 63 21 & 87 Independent auditor’s report Intangible assets and goodwill Interest and similar income Interest expense and similar charges Interest rate risk Interest rate sensitivity Internal control Investments in Group undertakings L Liquidity risk 147 113 76 76 33 131 45 111 37 96 97 32 88 & 126 108 M Market risk Minority interests in subsidiaries M&T N Net trading income Nomination and Corporate Governance Committee 76 43 F Loans and receivables to banks Fair value of financial instruments 129 Loans and receivables to customers Index (continued) O Operational risk Other equity interests Other liabilities Other operating income Outlook Own shares P Performance review Post-balance sheet events Principal addresses Profit on disposal of businesses Profit on disposal of property Property, plant & equipment Provisions for impairment of 37 126 121 77 21 124 14 145 152 86 86 114 S Segmental information Share-based payment schemes Share capital Share repurchases Shareholder information Statement of cash flows Statement of Director’s Responsibilities Statement of recognised income and expense Subordinated liabilities and other capital instruments T Trading portfolio financial assets loans and receivables 98 Trading portfolio financial liabilities Provisions for liabilities Treasury bills and other and commitments 121 eligible bills 72 77 124 124 154 66 146 68 122 90 120 90 R Reconciliation of movements in shareholders’ equity 69 & 70 Regulatory Compliance and Business Ethics Related Party Transactions 29 139 Remuneration Committee 43 & 135 Report of the Directors Reporting currency Retirement benefits Risk management 38 142 82 28 159 48082 Cover 12/03/2007 19:51 Page 1 

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